Accounts receivable financing is a type of financing arrangement between two companies in which one company sells or lends its outstanding invoices to another company to receive advance payments on its due invoices. In this arrangement, the financing company delivers an amount equal to the reduced value of the unpaid invoices or accounts receivable, in exchange for a fee. Business-to-business sales payments are not paid instantly at the time of sale. Payments are often paid based on the time period mutually agreed upon by both parties. It could be within 30, 60, or 90 days depending on the payment agreement. This means that the buyer can buy the product without making any payment. After receiving the product, you can make the payment at any time within the time period mentioned in the payment agreement. On the other hand, the seller increases the accounts receivable by the amount of the sale and records them in income. Later, when you receive payment, you decrease accounts receivable and increase cash simultaneously. This is called factoring. The biggest advantage of accounts receivable financing is that it allows the seller to get the cash immediately by selling the receivable to a third party.
Factoring companies that purchase accounts receivable to collect customer payments are often interested in purchasing large accounts, rather than multiple small accounts. Therefore, the size of the accounts is always a matter of preference for an outside company that purchases the accounts receivable.
Before buying the accounts, the factoring company reviews the buyer’s creditworthiness. To establish credibility, the factoring company reviews the seller’s credit history and also the period of time for which they have been in business. So if the selling company has a good credit score and has been in business for quite some time, it has a better chance of getting the attention of factoring companies.
Factoring companies do not appear to be very interested in purchasing accounts receivable that are past the agreed upon payment date, as such accounts have little or no chance of receiving payment. Therefore, factoring companies will offer a floor price for such accounts or, in many cases, will not buy them at all. Factoring companies do not want to indulge in the practice of chasing customers for invoice collection; therefore, they would like to keep those accounts at bay.