Factoring Term Sheet – NeeBo Capital Blogs

One of the great things about account receivable factoring is that you may be offered a term sheet (a document listing all the details involved in the financing) in as little as 24 hours. It’s a welcome departure from the slow loan application process normally used by banks.

Duration of the Financing

Even the most ardent advocate of factoring admits that this method of financing should be only temporary. It’s to be used only as needed. However, some lenders may ask for an extended period of time for factoring so that they actually get a decent return on their investment.

This is called a lock up period, and it can be devastating if you’re required to use factoring for a year or two when you only need it for a few months.

But with some companies, spot factoring which only involves a one-time deal and a single invoice may also be possible.

Advance Rates and Fees

In factoring, you get an advance as a percentage (more or less 80%) and then the rest is forwarded to you minus the factor’s fees when the customer finally pays in full. So to have a viable budget plan, you’ll need a definite idea of the advance rates and the fees. The AR factoring term sheets must explicitly state how much you’ll be getting.

The problem here is when advance rates differ depending on the credit-worthiness of your customers. If advance rates are different each time, what determines the final advance rate?

The fees may also be affected if your customers don’t pay on time. You may have to shoulder the penalties as well, so you’ll need to know the fees involved.

And you also need to know what will happen if your customer refuses to pay. Usually, you may have to return the advance money you received along with additional interest. In non-recourse factoring, the factor doesn’t hold you accountable if the customer declares bankruptcy. But it’s usually a different matter if the customer refuses to pay because of a dispute with your company.

Collection Methods

Factors are usually in charge of collecting fees from your customers. While this may be regarded as a convenient service, it may also be an area of concern. Some factors may employ collection methods which may not sit well with your customers.

Some term sheets specify the kind of letters factors send out to customers when collecting payments, and the frequency of sending out these letters are specified as well. Sometimes the factor may even incorporate your own letterhead or logo on the collection letters so that your customers are unaware that you’re using a factor as a collection agency.

Conclusion

AR factoring term sheets specify every important detail so that you avoid disagreements and confusion later on. The best term sheets try to anticipate every possible contingency so that there’s a planned response for every scenario. Having a factor as backup is often great, but to forge a lasting relationship you need to come up with AR factoring term sheets that are fair to all parties involved.

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If you are fed up with banks, you may want to consider getting additional financing through factoring. This is a method that enables you to get anywhere from 70% to 90% of the value of your invoices immediately, instead of having to wait for as long as 90 days to get paid by your customers. You negotiate with the factor, and after the negotiations you get a factoring term sheet that spells out in plain language what you can expect from the contract.

This is pretty much a straightforward document. It explains the factoring agreement, and it includes details such as:

The types of invoices they are willing to factor. Some medical factors, for example, won’t handle Medicare or Medicaid payments. It may also specify if you can choose the accounts you can factor, and whether each invoice is handled independently. Minimum amounts may also be specified. For example, the factor may not want to handle any invoice that’s worth less than $1,000.

The amount of the advance. This says whether you get 60%, 70%, 80% or 90% of the value of the invoice. Sometimes conditions will be spelled out as to which accounts can receive higher advances than others. For example, accounts with the most credit worthy customers (famous or long-standing businesses) may get bigger advances.

The discount rate. This is the fee which is a percentage of the value of the invoice. This may be a fixed rate, or a variable rate depending on the prime rate. Some conditions may also be specified which may affect the rates for certain invoices.

Additional fees. Different factoring companies charge different fees. Some, for example, may require an audit of your accounts receivable practices to see if you are doing it correctly. Such an audit may come with a fee. Other fees may include a charge for each invoice, or a termination fee when you want to end the agreement.

Disbursement of reserve amounts. The reserve is the rest of the payment, less the fess demanded by the factor. A day may be set aside for disbursement. Payment methods may also be specified (the funds may be deposited directly into your bank account.

The length of the commitment. Some contracts require a long term commitment for two years or more. You may have to pay a hefty termination fee if you end the relationship prematurely. Others have no minimum time frames at all. The contract may be month to month, and you may end the factoring agreement after the month.

The collection of the payments may also be detailed. Most factors insist on doing the collection themselves, although sometimes the collection may be done by your company of you want to ensure that the payment is done professionally and courteously. However, a factor almost always insists that the payments must be sent directly to them.

Before you sign any contract, you need to make sure that when you get a factoring term sheet that’s clear and accurate. You may want to hire a lawyer to explain the term sheet to you and determine whether the terms are beneficial to you or not.