What is recourse factoring and what you don‘t know about it?
Recourse factoring is a type of financial service that is used by thousands of businesses worldwide. Both smaller and larger enterprises contact financial institutions like banks or credit unions to make arrangements for factoring. The financial benefits of it are outstanding. More financial stability, which recourse factoring brings, means that a business can focus on R&D, advertising or other important areas instead of worrying about collection. There are many other benefits of factoring too. Let’s look at one of the most common financial transactions in the business world – recourse factoring and find out the most essential things about it.
What exactly is recourse factoring?
Let’s start of with regular factoring. It is a type of transaction when a business sells its invoices to a third party (which is called – the factor) for a fee (taken out of the total invoice amount). The seller receives the money from the factor quickly and doesn’t have to worry about clients taking a long time to pay.
There are two types of factoring:
- Recourse factoring
- Non-recourse or full factoring
Recourse factoring is usually the cheaper of the two. Why? Mostly because that is option with the least risk for the factor. The key element of recourse factoring is that if the factor is not able to collect the money from the clients, the enterprise will have to buy back the invoices from the factor. This is the most significant and crucial aspect of recourse factoring.
How are recourse and non-recourse factoring different?
Non-recourse factoring is a type of financial transaction that doesn’t create the obligation for your business to buy back unpaid accounts receivable from the factor. As a result, this service is usually a bit more expensive (higher fees) but it offers absolutely minimal risk to the business.
Recourse factoring is the more popular of the two methods with businesses opting for the cheaper choice with more responsibility. Of course, this does not mean that in every particular situation when there is a dispute, that the company with factoring has to immediately buy back the invoices.
There are many circumstances, force majeure clauses and other nuances in factoring contracts that protect the interests of the factoring company. But, for the most part, companies with factoring have to be involved in collection and sometimes proactively encourage their clients to pay invoices on time.
All things considered, it isn’t the simplest financial service to understand and manage, but it is definitely worth it for a commercial enterprise.
Recourse factoring benefits for businesses
There are multiple benefits and pros of factoring. The reasons behind why businesses choose to do it are various. However, we can group those benefits into a few unique categories, four to be exact:
- Financial stability & guarantees
- Reduced accounting costs
- Better credit rating
Let’s look at each one.
Financial stability & guarantees – every business wants to be profitable and to have access to stable sources of income. However, in the real world, delays and inconveniences are unavoidable. Clients forget to make payments or purposefully delay until the very last moment. Sometimes they disappear altogether, leaving sellers to wonder whether to cancel the contract or remain patient for a while longer. Recourse factoring greatly reduces the risk of these nuisances. It guarantees almost immediate collection and reduces the time it takes for a business to advance and expand. A more stable cash flow is good for business and makes it stronger.
Reduced accounting costs – regardless of whether bookkeeping is done in-house or by a 3rd party, it is expensive to manage accountants. Besides, their work is never easy as it is, so any simplification really speeds things up for them and for your organisation as a whole.
Time – time is money. Wasting it is definitely something that no organisation wants. Instead of waiting around for those transactions and wire transfers to complete, factoring makes sure that the cash is in the company’s account very quickly. Recourse factoring eliminates the waiting time and allows an organisation to transition from one project to another very quickly.
Better credit rating – factoring boosts cash flow which is great for a company. Investments can be done at a much more rapid pace meaning that any organisation can strengthen its position or increase market share. This helps boost credit rating and adds an entirely new dimension for future planning.
How to begin implementing recourse factoring in your business?
For starters, you need to sign a contract with a factor. It needs to be a company that can handle this sort of financial transactions for your business. After that, you will need to negotiate on the terms. Once signatures are put, the contract is activated and businesses can begin selling their invoices.
If you are a financial company and wish to begin offering factoring, you need to take the right legal steps before beginning to provide factoring to commercial subjects.
Next up is being able to handle the stream of data and complex financial records. Regular calculators and Excel or Google Sheets won’t cut it this time. You will have to use dedicated factoring software. Or, if you choose to only offer recourse factoring – maybe you can find specific apps with optimised data management features for recourse factoring software?
Regardless of your choice, making such software available to your management and accounting staff on a day-to-day basis can be a lifesaver. These dedicated computer applications help financial companies calculate all of the necessary parameters like commission, exchange rates and much more in one place. High-level factoring software has multi-purpose tools for versatile and professional factoring operation management. When you use this software, it is much easier to save time, manage risks and oversee every single nuance.
Businesses that handle factoring without dedicated software are definitely not doing any favours to their own balance sheet and to their staff, too. If your company is serious about factoring, the software is well worth the investment.