Factoring allows your business to obtain working capital while minimizing the risk of a foreign buyer not paying you and allowing your business to sell its expected foreign receivables.
What is Factoring, the basics?
Factoring is the sale of your business' invoices for foreign receivables (the money owed to you, but not yet paid by a foreign buyer) to a financial institution (a "factor") for a fraction of your invoices full value.
Factoring may help your business:
Expedite payment for your exports: When you factor your foreign receivables, you receive payment from the factor (financial institution) right away, instead of waiting weeks or months for your foreign buyer to pay the full amount of the invoice owed to you.
Reduce the risk of foreign buyer nonpayment: Once a factor has bought your foreign receivables, the factor (financial institution) becomes the new recipient of the money owed to you by your foreign buyer. The risk of foreign buyer nonpayment transfers from your business’ books to those of the factor (financial institution), eliminating the risk of your business not being paid.
How does factoring work?
Step 1: You, the exporter, sign a contract to sell your export receivables to a factor (financial institution).
Step 2: You export goods or services to a foreign buyer on mutually decided terms e.g. you export $100,000 worth of goods or services and allow your foreign buyer 90 days to pay the invoice.
Step 3: You give your invoice for your foreign receivables to the factor (financial institution), and the factor immediately pays you a percentage of the amount owed by your foreign buyer e.g. the factor might pay you $70,000 now for the $100,000 worth of receivables that your foreign buyer is supposed to pay you 90 days from now.
Finally: You take the $70,000 worth of capital from the factor and use it to work on your next export order. Meanwhile, the factor (financial institution) waits to collect payment from the foreign buyer.
Are there alternatives to factoring?
An alternative to reduce the risk of foreign buyer nonpayment or to access working capital is export credit insurance. Export Credit Insurance, like homeowners or automobile insurance, protects your export business should a foreign buyer not pay. Credit Insurance insures your company’s export sales; obligating an insurer to pay you a predetermined amount of your business’ outstanding invoice should a foreign buyer not pay.
While factors offer your business a certain percentage of money for foreign receivables, not yet paid, export credit insurance assures your business that you will be compensated a predetermined amount of an invoice if your foreign buyer does not pay. Factoring allows you to pass the risk of nonpayment by your foreign buyer to the factor, while export credit insurance lets you protect against the risk of foreign buyer nonpayment without having to go through a factor.
Export credit insurance can also potentially help you access a working capital line of credit. Most commercial lenders, while hesitant to lend to a business against un-insured receivables, once insured, foreign accounts receivable are often considered adequate collateral for a bank to offer your business credit or working capital. Ultimately, instead of factoring your foreign receivables, you can use them as collateral to borrow working capital from a commercial lender. Giving your business the capital you need to fulfill an export order, while also assuring that you will receive payment for your outstanding foreign receivables.
The Export-Import Bank of the United States (Ex-Im Bank) can offer your business a variety of services that complement or can substitute for factoring. Export Credit Insurance insures your foreign receivables against foreign buyer nonpayment for U.S. made products and services sold overseas, while the Working Capital Guarantee program can provide your business access to pre-export capital required to capture sales.
Learn more about how trade finance can help your export business by downloading the U.S. Department of Commerce’s Trade Finance Guide below, or call our National Contact Center at +1-800-565-EXIM(3946) to get started today!