For many small businesses that are having problems with their working capital the best solution is to choose invoice factoring. However, companies should also be aware of who is the one responsible for all the debts if ever the customers don’t make their payments. Factoring comes in to two forms: recourse factoring and non-recourse factoring. When a company enters in to this type of financing agreement they need to decide who will take the risk when it comes to bad debtors.
Factoring with recourse is usually cheaper than factoring without recourse because the risk of bad debts lies in the hands of the company selling the invoices rather than in the hands of the factoring company (because the financing company has less risk, it is willing to charge lower interest). Recourse arrangements are also easier to obtain than non-recourse agreements. The factoring company will have less responsibility when it comes to bad debts of the company in a recourse situation. If the customer doesn’t make a payment to the factor, the factor can make the company that sold them the invoice pay instead.
This method is totally different from non-recourse factoring because in a non-recourse situation the responsibility of handling all the bad debts from customers is assumed by the factoring company. This arrangement is difficult to obtain and it is more expensive than recourse factoring. In this method, if ever the customer won’t be able to pay their debts, the factoring company will not be able to seek redress from the company. Instead they take the responsibility on the debts incurred by the customers. Non-recourse factoring is not good for businesses that have weak financial capabilities and have a higher amount of unpaid invoices.
Before the company decides to have invoice factoring it is best to analyze the financial state of the business. Does the business have enough capacity to handle all the risk when it comes to bad debtors? It is also important to choose a reliable factoring company that will not only provide advance payment for the business but serves as partners also in taking the risks when it comes to customers who don’t pay their debts. There are a wide variety of factoring and invoice discounting companies available in the market industry who offers low charges in their factoring services.
When choosing between recourse factoring and non-recourse factoring, it is necessary that companies weigh first all the positive and negative effects of both types of financing. Recourse agreements are easier to enter into and charge lower interest rates. However, if your customers don’t pay the factor, then you are liable. Non-recourse agreements are harder to enter into and more expensive; however, if your customers don’t pay, then the factor is the one that is liable. Evaluate your customers and decide which fits best.
