The Right Tool for the Job

In our last post: “The Notification Issue”, we identified three general types of factoring relationships:

1. The factor buys all of the client’s accounts receivable and essentially takes over the client’s entire AR function. Some people refer to this as a traditional, full-line factoring relationship.

2. The factor buys all of the invoices due from one or more specified customers of the client. This is a hybrid sort of relationship that falls short of the full-line model but is more complete than the spot-factoring model.

3. The invoice-by-invoice purchasing, or “spot factoring” model. In this case there is no commitment by either party beyond the purchase and sale of the specified invoices.

In our last post, the distinction among these three general types of relationships was drawn in terms of the need to notify the client’s customer of the existence of the factoring transaction and to obtain acknowledgment of the transaction from the customer and an agreement to re-direct payment.

There are other important distinctions, though.

One of them is the expected duration of the relationship.

The full-line, traditional factoring relationship is intended to be a long-term, comprehensive solution to the client’s need. For whatever reason, the client will typically need not only a financing facility but also an accounting and a collections facility.

Setting up this kind of relationship requires time and investment on the part of both the factoring firm and its client and so there is usually a requirement that the client commit to:

a) a minimum duration of the relationship; a year or maybe two, and
b) a minimum volume of receivables sold to the factor; usually stated in terms of dollars per month.

Companies entering into this type of factoring relationship will usually be larger, well-established and stronger firms that could access other sources of financing if they chose to, but that find value in the full-line factoring model.

The second of our two general types of relationship—the hybrid—is also a longer-term, but less comprehensive, solution. In such a case the client might have one or more steady, sizable customers and a relatively permanent need to accelerate collections but might not have the ability to get traditional bank financing or to establish a full-line factoring relationship.

In the spot-factoring transaction the essence of the relationship is its short-term, use-it-as-needed nature. No commitments are typically required that either party—the factor or the client-- do any additional business with the other. That doesn’t mean that they WON’T do other business, it just means there’s no obligation.

This is in complete contrast with the traditional, full-line factoring relationship; where the factoring company knows it has a minimum amount of business for a stated minimum period of time. The spot factor might establish a relationship with a client; complete one transaction with that client; and never have any further business with that client.

The two extremes of our notification spectrum correspond to extremes of expected relationship length. And, as we’ll discuss in our next post, will also have very different pricing parameters.

The Interface Financial Group has been helping businesses with their cash flow needs since 1971. Solving cash flow problems is what we do.