Factoring: what is it and how does it work?

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After having faced a period of forced closure or major limitations on activity in recent years, new challenges have forced many companies to readjust in order to ease their cash flow.

And one of the tools that has been widely explored in recent years is Factoring, a solution that can bring more liquidity to your business.

What is Factoring?
Factoring is a financial mechanism made available to companies with hungary whatsapp number database flow management difficulties, which consists of acquiring short-term credits (invoices) resulting from the supply of goods or services, allowing immediate liquidity. This process is covered by Decree Law number 171/95 of 18 July, which regulates Factoring Companies and Factoring Contracts. Factoring is a financial operation carried out by banks or factoring companies that allows companies to increase their liquidity by advancing payments from their customers, in a manner similar to a loan.

In a factoring contract, we can find three parties involved:

Factor - entity to which the credit is transferred;
Adherent - the company that requires the services;
Debtor - the adherent's Customer
Once the parties involved in this process are known, we can summarise Factoring as an activity that consists of the transfer of short-term commercial credits by a company (Adherent) to a financial institution (Factor) relating to credit sales made to its customers (Debtors).

Who is the Factor?
The Factor is a financial institution that acts as an intermediary in this process. In other words, the Factor agrees to pay the Adherent the amount of the Debtor's invoice, minus a commission and fees. Although the Adherent does not receive the full amount, it is thus able to receive the amount of the outstanding invoices in advance, allowing it to achieve liquidity more quickly.

Factoring Modalities
Within Factoring, there are two modalities that we must differentiate:

Factoring with recourse - When the Adherent has the duty to pay the amount advanced to the Factor, if the Debtor does not pay the amount due.
Non-recourse factoring - When the Adherent is excluded from any responsibility for the Debtor's debt, with the Factor assuming all the risk of the operation.
What are the advantages and disadvantages of Factoring?
When using Factoring, the following advantages stand out for companies during this process:

Reduction in the average collection period - allows for better treasury management, as companies can anticipate receipts,
Reduction of the risk of non-payment - depending on the chosen method, it is possible to transfer the risk and responsibility for collection to a third party, reducing exposure to debt,
Elimination of credits from the balance sheet - if non-recourse Factoring is chosen, it is possible to remove the credits granted from the balance sheet and generate immediate liquidity.
Regarding the disadvantages, we can also highlight the following:

Payment of commission to the Factor - although it allows you to obtain an early refund of the credits, you will always need to deduct a portion for payment of commission to the Factor on the intermediation,
Risk of the Factor not accepting Factoring - if the credit is identified as high risk, the Factor may not accept Factoring, accept only a partial amount or demand a higher commission amount,
Possibility of the Factor cancelling the credit - if you choose the Factoring with recourse option, you may run the risk of the debtor defaulting and your credit being cancelled.
Factoring is already an option for many companies worldwide, and in Portugal it has also become a popular choice. It is a way of increasing liquidity and reducing the risk of exposure to credit default, as well as being an easier way of collecting debts from third parties, by handing over this process to companies specializing in debt collection.