Both factoring and invoice discounting can be described as ways to obtain immediate cash by selling accounts receivable to a third party, usually a finance company. In fact, the two methods are more similar than different.

Factoring, also known as asset securitization, is a direct sale of accounts receivable to the finance company. The business gets cash and the finance company collects the debt, keeps the interest, and gets a discounted rate on top of that for its problems. The discount of invoices can also be called the sale of accounts receivable, but in this case the management of accounts receivable and their collection DOES NOT change hands. The company that earned the revenue still has that responsibility.

Here are some questions to consider in choosing which method is best for your business:

1. Are you worried about the cost of collections in your company? Are they getting out of control? Does your collections area have competent and reliable staff? If you think your company would be better off reducing the amount of resources dedicated to this function, factoring is the best option for you, as much, but not all, can be offloaded to the finance company. If you already have a well-functioning collections department, you can opt for invoice discounting. That way, your staff and collection-related procedures remain current.

2. Knowing that the finance company will undoubtedly treat its clients with the utmost courtesy, respect and professionalism, are you concerned, however, that he prefers to deal directly with your company? Perhaps billing requests are often joined with customer service requests. Usually your customer is unaware of the sale of their receivable with the invoice discount. Not only are you aware of a factoring agreement, but you are also subject to confirmation calls on individual invoices from the finance company on occasion. If this is something that you know would annoy your customers, you may need to choose the invoice discount.

3. What are your current informational needs regarding collection efforts and your clients? Are you currently collecting and relying on this data to make future credit decisions for this customer? Can the finance company provide it in the format and frequency you want? Otherwise, invoice discounting may be the right choice, so all your current data collection techniques will not be affected.

4. What are your cash needs? Whether factoring or discounting invoices, you are paying for immediate cash. Charging yourself at a normal rate would return you more actual cash. But discounting invoices gives you more cash back than factoring. This is obviously due to the fact that the finance company assumes more responsibilities and duties with factoring than with invoice discounting.

5. How large is the portfolio of unsecured accounts receivable that your business has? How diverse is it? Is there an individual customer who owns more than 20% of the total balance of the accounts receivable? Generally, companies that use invoice discounting tend to be larger and have a more diverse portfolio. However, this could be why they chose invoice discount over a feature. They already have the data collection efforts and methods in place and the cost and difficulty involved in changing them can be prohibitive for a factoring arrangement. Diversity in the portfolio is something finance companies look for in both deals.

Making an honest assessment based on these factors will allow you to make the right decision for your company. You’ll soon be on your way to healthy cash flow, no matter which one you choose.