Poor cash flow is one of the main reasons for business failures. For small and medium sized businesses, the real key to success is maintaining a good flow of cash through the business enabling it to purchase raw materials, new equipment and – at the simplest level – paying staff wages. However, many firms struggle when asked to make large capital outlays and then wait between 30 and 90 days before receiving payment from clients. This problem is further exaggerated by the inflexibility of the banks to provide higher levels of funding to firms with low fixed asset bases.

However, times have changed from the days when the bank was the first port of call for funding. The overdraft, which is based on how a firm has performed historically, is under pressure as new more flexible forms of finance have emerged. One such alternative is factoring, also known as debtor finance, invoice finance, invoice discounting and receivables finance.

So why is factoring becoming the preferred finance option for an increasing number of Australian entrepreneurs? The following five facts will answer that.

1. Factoring is a more flexible form of finance

So what is factoring? In its simplest terms, factoring provides a flexible source of finance by allowing businesses to unlock the funds tied up in unpaid invoices – leading to an immediate injection of cash. This is also referred to as discounting, though factoring offers an added service to collect, manage and administer the debt.

On receipt of an invoice from a client, a factor will typically pay up to 80% of its value within 24 hours. The factor then carries out the credit control on each invoice, on behalf of their client, sending out statements and chasing payment until it is paid. The remaining 20%, less a service fee, is handed over to the client once payment is received.

Another great advantage of factoring is the flexibility. The amount of funding available is based on the sales you make not on the value of your historic balance sheets. Not only that but if your firm is doing well, then the amount of funding available increases because it is linked to your sales.

2. Cash flow and late payment hinder business growth

Cash flow is a huge problem for many companies. When you have to pay your temporary workers weekly, long before you can even invoice your clients, cash flow problems are bound to follow. Added to this, businesses now have to pay GST and other taxes monthly or quarterly. When the twin problems of cash flow and late payment converge, it is no wonder that many firms are looking towards alternative funding solutions like factoring to help keep their business moving forward.

3. More business advisors are recommending factoring

According to the Institute for Factors and Discounters Australia and New Zealand, debtor financing turnover for Australia in the March 2012 quarter was $14.7 billion – an increase of 3.2% on the March 2011 quarter. Invoice discounting turnover was $13.5 billion and factoring turnover was $1.2 billion. Most banks offer discounting and there are a number of non-bank financiers, including Scottish Pacific, who provide the additional factoring service.

4. Factoring offers value for money

Compared to bank funds, the cost of money advanced through factoring is highly competitive. What is often forgotten in a straight comparison of charges is that factoring includes a full sales ledger management service. This also means that users of factoring can make enormous related savings not only by removing the burden of chasing payment, the cost of accounts receivable staff, but also the savings in terms of stationery and telephone calls etc.

Businesses can also enjoy the benefit of reducing late payments, and further savings can be made with suppliers by taking advantage of early payment discounts.

5. Factors work alongside their clients

It is not unusual for businesses, before they become factoring clients, to be concerned that they might lose control of their finances. Many are also worried that the establishment of a relationship with a factor will cause alarm among their customers, who might interpret this as a sign that they are in financial difficulties. This is something of a hangover from old times. With a reputable factor, the client benefits from having a dedicated credit controller who, in effect, becomes an extension of the client’s team.

The factor, such as Scottish Pacific, works with the client to manage the sales ledger – chasing invoices and taking on the responsibility of collecting payments. A good working relationship with a client’s customers is just as important to the factor as it is to their client. Factors are more than aware of the importance of good client relationships. It is not in their interests to upset any relationships. The fact that the two have this interest in common means that the factor has to work closely with the client to fully understand the situation, their business and their customers.