The Fundamentals of Factoring Pricing
Some business owners might consider accounts receivable (AR) financing expensive, but that’s only because they’re unclear about the true operating costs involved with running a business. Economics textbooks talk about opportunity cost, and nobody knows more about opportunity cost than small business owners.
Think about all the time you invest in performing due diligence on your customers by processing their invoices and collecting your accounts receivable. Now imagine if you could outsource those tasks to a full-service provider – and spend more time growing your business. Funding with Liquid Capital relieves you of having to pay burdensome administrative costs while simultaneously reducing bad debt losses. With Liquid Capital, the cost of funding really does pay for itself.
Pricing practices vary widely among different AR financing firms. A discount rate is usually quoted at an initial amount, and then another higher rate is applied for subsequent time periods. When reviewing AR financing firms, it is important that you identify all the fees that will be charged. Sometimes, the discount rate represents a funding rate, and then there is also an additional servicing fee that is not explained up front. You will save money (and aggravation) if you make sure to look at all the fees and calculate the true cost before you commit to any arrangement. At Liquid Capital, we were industry pioneers with our one-quote pricing mechanism and upfront fee schedule with no hidden charges.
In order to get a true picture of your financing options, it is important to understand the 5 keys of factoring in finance:
- Advance Rate: This is the percentage of the invoice amount that is advanced upfront to the client: typically around 75-85%. Avoid any bad surprises and make sure you clearly understand how the money to be funded upfront is calculated.
- Chargeback: A chargeback occurs when a factor (ie. Liquid Capital) has funded an invoice and it is later determined that part or all of the invoice amount is in error and will not be remitted before a predetermined period (or at all). This could result from defective products being delivered, aging invoices or disputes. The factor then charges this amount back to the client.
- Discount Rate: This is expressed as a percentage of the invoice amount and represents the amount the factor keeps as a fee. The use of this term varies. Liquid Capital always quotes one rate and there are never any hidden fees. In addition, we only charge a 30-day rate on the first 30 days your invoices are outstanding and a daily rate afterward.
- Reserve: This is the amount, expressed as a percentage of the invoice amount, that a factor holds as a reserve until the invoice is paid. The factor pays the reserve amount, less their fees, when the invoice is collected. It is essential in managing your cash flow that you know exactly when reserves are paid out. Liquid Capital releases reserves at least once a week so you always have timely access to your cash.
- Spot Factoring: With “traditional” or “full” factoring, all of a customer’s invoices are factored on a continuous basis. Spot factoring is the factoring of an invoice or group of invoices on a one-time basis.