Factoring is another way that ongoing businesses obtain cash flow, or financing by securing debt with their receivables. The entrepreneur negates the cost of receivables financing because the company offering the funding is typically doing it for a flat percentage of the ticket for a period of usually less than 90 days.
This may sound like a good option at first, but when you figure out you are paying 5% interest on a note over 90 days at most, you quickly realize that you are paying outrageous interest on the money annually, and you are seriously eating into your profit potential. The entrepreneur may not realize that 5% is sometimes more than the profit on the business itself, if you are not analyzing the cost of the transaction.
Typically the receivables company will hold back 20% of the tickets as well, meaning that you are not able to use the entire amount owed to you. They do this to protect themselves from companies that fail to pay their debt.
The reality is that Receivables financing is pretty much like a payday loan for business, and is just not good business. If you can't afford to fund the business, you might think twice before doing the business in the first place. You should also note that you still are responsible if your customers don't pay the factoring company. They take the money back in the form of chargebacks, so you not only have to give them the money back that they are out, you also lose the service fee that you paid the factoring company.
You would be far better off to sell equity in your company before doing factoring (receivables financing). Financing your company with debt is just not a good idea.