Non-recourse invoice factoring plans have quickly become very popular with companies that are looking for a factoring plan. The main advantage of non-recourse plans is that the factoring company absorbs the loss of advance, if your customer does not pay due to a credit reason.
Factoring companies use different rules to define what is a qualifying ‘credit reason’. The most common definition is that your customer has to declare insolvency (bankruptcy). Furthermore, the bankruptcy usually has to happen during the 90-day window of the invoice purchase.
However, some factoring companies offer better protections and include non-payments due to cash flow problems, even if the company does not declare insolvency. Keep this in mind as you compare factoring companies. Be sure you understand the type of protection a factor offers before you sign on as a client.
Factoring does not protect you against payment disputes
Keep in mind that a factoring plan (recourse or non-recourse) does not offer any protection if the reason for non-payment is a dispute. Therefore, you will have no protection if your client claims that they will not pay an invoice because they are no satisfied with your services/products.
Benefits of Non-Recourse Factoring
Here is a list of the seven most important benefits of a non-recourse factoring plan.
1. Improves your cash flow
The most important benefit of any factoring plan, recourse or not, is that it will improve your cash flow. Financing slow-paying invoices provides you with immediate working capital. You can use this working capital to pay expenses and invest in growth.
2. Protects you from certain type of invoice non payments
One big advantage that is exclusive to non-recourse plans is a high level of bad debt protection. If the factoring company finances an invoice, and if the customer does not pay (for approved reasons), you do not need to pay back the advance. This can be an important advantage for small companies that don’t have large cash reserves.
3. Price is similar to the cost of regular factoring
Contrary to popular belief, the cost of factoring is mostly the same for both recourse and non-recourse plans (here is information about typical rates). The factoring market is competitive and there are many companies that offer non-recourse plans at comparable prices to recourse plans.
4. Allows you to provide payment terms to clients
A factoring plan allows you to offer net-30 terms to your customers without having to worry about your cash flow. If you need funds, you have the option to factoring the invoices. This can be used as an effective tool to grow your business.
5. Relatively easy to get
Qualifying for a factoring plan is much easier that qualifying for a business line of credit or similar bank financing. The most important requirement to qualify is to have invoices that are payable by creditworthy commercial clients. Aside from that, your invoices must not be encumbered by liens.
6. Simple applications and fast deployment
Most factoring plans have simple applications that require basic information about your company. Unless your company is large or your situation is complex, you can usually get a proposal within a day. In most cases you can get funded within a week or two weeks of starting the process (varies by client).
7. Can be used as short-term funding
Most factoring plans can be used as a short-term funding solution. While many factoring companies still ask for 1-year terms, many are open to shorter 3-month or 6-month terms. This can be important if your company is only going through a temporary cash flow problem.
Disadvantages of Non-Recourse Factoring
The three main disadvantages of a non-recourse plan are as follows.
1. The level of protection varies by company
Each factoring company offers their own version of non-recourse factoring. Unfortunately, plans are not standard and level and type of protection varies by company.
This is probably the biggest disadvantage of non-recourse plan. You will need to spend time interviewing each factoring company and understanding their capabilities before you have enough information to choose one.
2. The factor will be very careful before funding your account
Non-recourse factors are often more conservative when financing your invoices that conventional factors. Obviously, they don’t want to buy an invoice that has a high risk of default. Keep in mind that is a factor is not comfortable financing from one of your customers, you should be careful about offering terms to that client as well.
Regular (recourse) factors don’t have this problem and can be less selective. If an invoice defaults, they can always get paid from your reserves.
3. Factoring costs more thank bank financing
Factoring plans, whether recourse or non-recourse, can cost more than bank financing. Therefore, they work best for businesses that have high profit margins – between 15% – 30%. Obviously, higher profit margins work better.
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