The downside of factoring

Sue Stedman, founder of Sue Stedman Corporate Clothing, explains some of the disadvantages of invoice factoring and why she's always avoided it.

I recently attended a business seminar where one of the topics being discussed was ‘the benefits of invoice factoring’. The speech really got me wondering why a business would really want to use this type of service.

Being able to draw on your sales invoice prior to receiving payment may seem attractive to those who have an immediate cash flow requirement or may be looking to make a strategic investment without having to meet the bank manager, but in reality, I believe factoring’s long-term effects may be damaging to a small or medium-sized enterprise (SME).

With the introduction of a factoring company, not only are you creating a barrier between you and your customers with the introduction of the third-party organisation to manage your credit control, but the fees on such services could eat into profit margins and potentially spiral out of control the longer an invoice remains unpaid.

In many businesses, particularly SMEs, people buy people. Hiring a factoring firm to collect your invoices may prove contentious for customers who prefer to deal directly with you on all matters related to the services or products they are purchasing. Plus, some factoring firms actually vet your customers – and your working practices – at the commencement of the relationship.

However good your factoring firm, the fact that you are using one at all will affect your customers’ perceptions of you. The last thing you want is to have a strong cash-flow yet a damaged reputation.

Invoice discounting on the other hand offers the advantage of being able to collect debts and manage credit control in-house, in addition to accessing funds as happens with factoring. Your customers are not made aware of the discounting, although strict rules are typically in place with discounters who will check your credit history, profit track records and typically state that the annual turnover should exceed £500,000 in addition to charging fees and interest on sums provided.

Ultimately, if you have solid and open relationships with your customers, with terms of business agreed in advance and a good joint work ethic, I believe credit control shouldn’t become a sticking point. If your clients are late-paying, find out why and work together to solve the problem.

I would also urge any business owner considering invoice factoring, or even discounting, to do their research first and work out just how much the service will cost their business in the long term. For an SME, strong customer relationships are vital to ongoing success, so outsourcing such critical elements should surely be the last resort.

Nick Britton

Nick Britton

Nick was the Managing Editor for growthbusiness.co.uk when it was owned by Vitesse Media, before moving on to become Head of Investment Group and Editor at What Investment and thence to Head of Intermediary...

Related Topics

Growth Funding