Factoring, or selling your accounts receivable to another company, has been a part of business commerce since the days of the
Because of this increase, the number of horror stories being told throughout the industry during the past year has grown to an all-time level. (I haven’t heard so many tales of factoring woe in my 15 years in banking and finance.) The question is, are factoring companies taking advantage of the sour economy to prey on working capital-starved companies, or is the problem one of properly educating the borrower as to the differences between factoring and traditional banking?
I do not believe that factoring is inherently bad for a company. But since factoring is an unregulated industry, there are very good factoring companies and ones that nickel-and-dime a company to death with fees and poor customer service.
Since the beginning of the year, I have heard horror stories from customers of several very large factoring companies. In one case, one of the factoring companies is a large 200-year-old international company that has enjoyed an otherwise good reputation in the industry. Still, in listening to the borrower and a representative from the factoring company, I have come to the conclusion that in these business transactions, both the finance company and the company being financed could have done a better job communicating expectations before they ever consummated an agreement.
In the latest story of which I have first-hand knowledge, a small startup company with big dreams entered into a relationship with a factoring company. The majority shareholder has excellent personal credit and character and the company’s customers (called debtors in the factoring world) are very strong. The majority shareholder had never encountered factoring before and while they may have been very good at their business’s core competency, they weren’t so good at setting up a relationship with the factor that was mutually beneficial. The business owner did not really understand the differences between recourse factoring and non-recourse factoring. (The factor in question is a non-recourse factor.)
Several months into the relationship, the company being factored believed the factor was being rough with their customers. The owner didn’t understand that in a non-recourse factoring relationship, the factoring company owns the purchased receivable with no recourse back to the company that had sold it. That means the factor had every right to be as rough as they wanted to with the debtors since the invoice was now owned by the factor. In effect, when a company sells an invoice to a non-recourse factor, it loses its rights to control collections of the debt, though it still has an obligation to assist the factor in collecting the debt on behalf of the factor. Full recourse factors don’t have any interest in repeatedly calling your customers to demand immediate payment.