Merits and Demerits of Merchant Cash Advances
To better understand invoice factoring, we will take into account the Type II process which entails a customer receiving an advance cash amount and later collects a reserve amount.
The procedure of invoice factoring follows 5-steps as follows:
The initial step is to invoicing the customer buying goods or services on credit. Credit typically lasts for a period that may span to a maximum of 90 days. After the business has issued invoices, it has to consolidate them and send them to financial institutions for review.
The financial institutions will then determine if the invoices can receive financing by evaluating against set eligibility criteria. The business will be asked to provide information on their debtors to check if they are creditworthy and evaluate their credit history. After satisfying the institution on their creditworthiness and are comfortable with the risks, the parties will move ahead and sign a financing agreement that stipulates the maximum amount that can be factored at any given moment in time.
The business will receive an advance following the signing of the financing agreement that is contingent on factors such as the size of factoring, industry, and any other risk metrics utilized by the financing institution.
iv. Debtor Repayment
The client will directly pay the factoring provider, in this case, the financial institution as per the terms of the invoice. Typically, the factoring provider will follow similar collection patterns as the business to prevent possible repercussions to customer relationships.
Following receipt of debts by the financial institution, the reserve amount is paid to the original customer and the bank/lender will deduct a fee for its intermediary services.