How invoice factoring works
Under a factoring arrangement, a business sells eligible accounts receivable to a financing provider called a factor. The factor advances an agreed portion of the invoice value. The remaining balance, less the agreed fees and adjustments, is released according to the agreement after collection.
Customer notification and collection arrangements vary. Often the customer is instructed to pay the factor directly. BDC's factoring overview describes the sale of receivables and why the costs and collection responsibilities matter.
When factoring may suit an equipment-based business
A trucking company may have completed a delivery and issued its invoice while fuel and wages are already due. A road-building contractor may have approved invoices awaiting payment. A forestry or mining service business may have customers on extended payment terms. Factoring can be considered when the cash need relates to an eligible receivable and the underlying work is documented.
A quotation, uncompleted job or projected future sale is different from a completed, payable invoice. If the business needs funds before it can perform the work, discuss working capital financing or other available structures instead.
What affects whether an invoice can qualify?
The review looks beyond your business to the customer that owes the money. Be ready to discuss customer credit quality, invoice age, payment history, concentration in a few customers, and any disputes, deductions or rights of set-off.
For construction and project work, identify holdbacks, progress billing, change orders and whether the customer has accepted the work. A holdback or disputed invoice may be treated differently from an ordinary trade invoice. Existing bank or lender claims over receivables also need to be reviewed before an invoice can be assigned.
Compare the advance, fees and recourse
- Advance and reserve: how much cash is available initially and what must happen before the balance is released?
- Fees: do charges depend on the invoice value, time outstanding or monthly volume, and are there setup or minimum charges?
- Recourse: when can the factor require your business to repay an advance or replace an unpaid invoice?
- Customer communication: who verifies invoices, notifies customers and follows up on collections?
- Commitment: must all invoices or particular customers be included, and how can the arrangement end?
Recourse and non-recourse arrangements allocate different risks. Do not assume that a non-recourse label covers disputes, incomplete work or every reason a customer might not pay; the exclusions and obligations are in the agreement.
Prepare an accounts receivable review
Start with a current receivables aging report, representative invoices, customer names, payment terms, proof of delivery or acceptance where applicable, and details of disputes or credit notes. Include your Canadian business's legal and ownership information and any existing financing secured by receivables. The factor will identify additional documents needed for its review.
Factoring compared with equipment financing
Factoring is based on eligible invoices. Equipment leasing funds the use of an asset, while an equipment refinance or sale-leaseback considers equity in equipment already owned. A business may have both an equipment need and a collections gap; describe both so the combined payment and security obligations can be considered.
For Canadian businesses across the country
Merrit Capital serves Canadian companies only. We work with businesses in Northern and Southern Ontario, Atlantic Canada, Manitoba including Winnipeg, Saskatchewan, Alberta, British Columbia, Quebec, Yukon, the Northwest Territories and Nunavut. We do not offer financing to businesses in the United States. Explore our Canadian service areas.