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What is Reverse Factoring? A Beginner’s Guide

A Quick Review of Invoice Factoring similar to invoice factoring, but the two are very different. Reverse factoring is the process of financing invoices for suppliers. This is downstream financing rather than upstream financing, aka financing customer invoices, as is done in factoring. For this reason, reverse factoring is also called supply chain factoring.

A Quick Review of Invoice Factoring

Before diving into reverse factoring, let's first do a quick review of how invoice factoring works. Invoice factoring is what most of us think of when we hear factoring. Invoice factoring is an accounts receivable solution. 

When a company needs cash, it can receive an advance on its invoice by using a factor. The factor advances a percentage of the invoice’s value. This might be 80 to 90 percent. Once the factor receives payment on the approved invoices, it will advance the remaining percentage minus a fee. This fee can be between 1 to 4 percent of the overall value of the invoices.

Companies that want to factor their invoices must meet specific criteria, which varies across factors. Generally, the criteria include a certain monthly amount of revenue, creditworthiness of customers, the business must be B2B or B2G, and have a certain monthly dollar amount of invoices.

Companies that want to factor their invoices must meet specific criteria, which vary across factors. Generally, the criteria include: 

  • A certain monthly amount of revenue
  • Creditworthiness of customers
  • Business must be B2B or B2G 
  • A certain monthly dollar amount worth of invoices

The benefit of factoring is cash flow, meaning the advance received by the factoring company. 

Now, let's explore how reverse factoring works and provide some reverse factoring examples.

What is Reverse Factoring?

Reverse factoring, also called supply chain financing, works in the opposite direction of invoice factoring — Instead of a company factoring customer invoices, it factors supplier invoices. In doing so, the company is factoring part of the supply chain. Reverse factoring is an accounts payable solution.

To better understand how the reverse factoring process works, let's look at an example of a reverse factoring workflow: 

Note that the "buyer" in the reverse factoring example below is the company that initiates the reverse factoring and buys supplier products; generally, this is the manufacturer but not always.

  1. The buyer is trying to extend terms with suppliers, so the suppliers are paid later. Extending terms is not something suppliers have an incentive to do.
  2. The buyer finds a bank or financing company for the supplier invoices.
  3. The bank offers to finance the receivables of several suppliers.
  4. The suppliers agree to the financing.
  5. Suppliers deliver goods or services and invoice the debtor (buyer).
  6. Supplier invoices are sent to the bank.
  7. The buyer approves invoices to be financed.
  8. At some later time, the buyer pays the invoices. Payment goes to the bank.

Let's look a little deeper at the reverse factoring process. In step three, suppliers agree to finance because they are getting paid in 10 days rather than 60, for example. Certainly, a 50 days advance for a small fee is worth the price.

But why would a supplier agree to financing? It's the buyer who initiated reverse factoring after all. The supplier doesn't need financing. But if the supplier doesn't agree, then the buyer is out of luck for the most part.

The main reason the supplier agrees to financing is that they get paid much sooner. For this early payment, there is a small fee involved. For the buyer, their fee comes in the form of an interest rate.

Reverse factoring doesn't always mean that the manufacturer is the one in need of cash or working capital. The supplier may be the one in a cash flow crunch and in need of a cash injection. Isn't that the supplier's problem? Yes, but it also affects everyone further up in the supply chain. If the supplier's problem is not solved, everyone suffers. It's worth it to the manufacturer to resolve the supplier's issue and get the supply chain moving again.

cash flow(source:BNP Paribas)

Who Benefits From Reverse Factoring

Reverse factoring benefits everyone in the supply chain.
There are many benefits to reverse factoring. The main benefit is the continued smooth operations of the supply chain. The reverse factoring process doesn't always start with the manufacturer. It can be anyone in the supply chain. A supplier that has more suppliers under it may decide to use reverse factoring to help a supplier in need to ensure the supply chain isn't jeopardized.

longer payment terms

A Summary of Reverse Factoring

  • Invoice factoring allows you the opportunity to get paid faster
  • The supplier has to pay a small fee for getting the early payment
  • Reverse factoring benefits everyone in the supply chain
  • Reverse factoring can look different for every business and can be utilized based on the needs of your company.  To learn more, take a look at our blog “How Can Your Business Benefit from Reverse Factoring?”.

Looking for a reverse factoring solution for your business? What about something better? Apruve can help you set up a trade credit and A/R automation program for your business buyers. Learn more about Apruve or contact Apruve’s specialists to sign up for a demo today! 

Net terms accounts receivable

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Apruve enables large enterprises to automate long-tail credit and A/R so you can stop spending 80% of your time and resources on 20% of your revenue. We partner with each of our customers to solve their unique credit, payment, and accounts receivable challenges and build the right credit solutions for your markets, customers, and goals. 

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