Factoring limit as a way to improve the company's financial liquidity
In the face of problems with maintaining financial liquidity, more and more small and medium-sized enterprises decide to sign a contract with a factoring company. Factoring is an alternative source of financing to the increasingly difficult to access bank loan. In contrast, it does not lower the company's balance sheet and does not worsen financial indicators. One of the most important factors that should be taken into account when choosing a factor is the amount of the factoring limit. A badly adjusted limit will not bring the entrepreneur the maximum benefits of factoring. In this article, you will learn what types of factoring limits are, on what basis the factor assigns them and how factoring can improve the company's financial situation.
What is factoring and how does it work?
The essence of the factoring service is the purchase by the factor of receivables (invoices), issued with deferred payment by the factorer to his contractors. It consists in the fact that the factor (factoring company or bank) grants the customer (the factorer) a factoring limit. Then, it pays the entrepreneur an advance on the invoice issued by him within the limit made available. Thanks to this, the owner of the company has the money immediately and does not have to wait for transfers from contractors until the payment date on the invoice.
What is a factoring limit?
When signing a contract with a factor, the entrepreneur receives a factoring limit, which determines the maximum value of the receivable financed by the factor. The limit is renewable.This means that each payment of the receivable by the recipient reduces the limit utilization level, and thus increases the available amount of financing.
Types of factoring limits
There are two types of limits in agreements with factoring institutions:
The global limit (in contracts it is simply called the factoring limit) - this is the maximum amount that the factorer can receive under the granted financing. When using this limit, the number of recipients or invoices does not matter.
Sublimit (also known as the contractor's limit) - specifies the value of the maximum amount paid as part of financing the invoices of a given contractor.
The factoring limit is above the limits of contractors. What does it mean? Let's look at an example: a factorer who is granted a global limit of 200,000. PLN and at the same time for its 3 recipients it has 100 thousand. PLN of the contractor's limit, he will receive the maximum financing equal to 200 thousand. zloty.
Some factoring companies also apply a concentration limit in addition to or instead of a counterparty limit. This limit means the maximum percentage share of one recipient in the balance of receivables. Example: the sum of all unpaid invoices of the factor is 200,000. zloty. At the same time, they include invoices for the amount of PLN 70 thousand. PLN from a recipient who has been granted a concentration limit of 20%. 20% of the balance of 200 thousand PLN is 40 thousand. Therefore, the factor will pay 40 thousand. PLN, and the surplus 30 thousand. it will remain unfunded.
What determines the amount of the factoring limit?
The factor determines the amount of the limit after analyzing the financial situation of the enterprise (factorer). It takes into account various indicators, they can be, for example:
personal and capital ties with other entities,
payment terms used,
previous experience with the factor,
information obtained from BIG and other external databases.
The above list does not exhaust all examined factors. Factoring companies also make the verification method dependent on whether the factorer is a natural person running a business or a commercial law company.
Is it possible to change factoring limits?
Factoring limits are entered into the contract, but this does not mean that they must remain unchanged throughout the entire period of cooperation on the factor-factoring line. An entrepreneur may negotiate a change in the amount of limits (both global and sublimits) arguing it with the course of the existing cooperation. The basis for increasing the limit is, for example, maintaining discipline in the timely payment of invoices by the recipient and increasing the turnover with a given recipient.
How to change the limit?
Most often, it is enough to contact the factoring institution and apply for a reduction or increase in the factoring limit. You should take into account the fact that the factor may ask for additional documents confirming the current situation of the entrepreneur.
What are the consequences of an incorrectly selected limit?
Before signing a contract with a factoring company, it is good to verify the maximum limit offered by a given factor. Most of them grant factoring limits at the level of PLN 50,000-300,000. PLN, but you can also find institutions financing receivables in larger amounts, e.g. 500,000. PLN and more. Investigating funding opportunities is important as a mismatched cap will have negative economic consequences.
Too low factoring limit will not fully cover the financing needs, because after exceeding the limit, the factorer will not receive further advance payments for invoices. Thus, depending on the financial initial situation of the factor - too low a limit will not change it at all or will improve it slightly. In any case, the entrepreneur will not use the maximum opportunities offered by a properly selected factoring limit. On the other hand, too high a limit may involve the necessity of incurring additional, unnecessary costs.
What are the benefits of the factoring limit?
Released funds from invoices allow you to finance current receivables: payment of taxes, installments, leases, employee salaries, etc.
Advances can be used for the implementation of subsequent orders: purchase of materials, semi-finished products or for increasing the number of employees.
The company has the ability to offer contractors longer payment terms, thus gaining an advantage over the competition.
To sum up - factoring strengthens the financial stability of enterprises by increasing their flexibility in many fields. The use of factoring allows companies to profitably turn money before the contractor actually settles the payment. When choosing a factor, it is worth paying attention to the factoring limit. Importantly, some factors do not charge any fees for the mere granting and maintenance of the factoring limit. The cost is then only incurred when the invoice is financed.