For many industries, factoring is a common solution to collecting payments, in which invoices are sold to a bank. This guide will explain the differences between traditional factoring vs reverse factoring in the cannabis industry and how each might benefit your business.
What Is Factoring for Cannabis Companies?
Classic or traditional invoice factoring occurs when you sell your unpaid invoices to a third party at a discount. The idea is simple: Your business receives less money from the invoices, but you receive the money immediately.
Factoring allows you to improve your company’s cash flow, giving you faster access to the funds you need to run the business.
You also can enjoy extended payment terms, which might allow you to purchase more supplies or equipment because you’ll have more time to pull together the funding you need.
The only drawback is that you receive less money than if your buyer had paid the invoice. But this method allows you to access quick cash and can help you save time you might have spent tracking down unpaid invoices.
What Is Reverse Factoring for Cannabis Companies?
Reverse factoring, sometimes called supply chain factoring, works much the same way, though, in this method, the buyer — not the supplier — initiates the factoring process.
How does reverse factoring work? The bank or factoring agency pays for the supplier’s invoice at a discounted rate. But before the invoices are sold, the buyer approves them. The credit limit and financing rate are based on the financial history of the buyer.
That’s can be good news for cannabis business owners. Traditional lending options are often off-limits to the cannabis industry. Reverse factoring can be a useful way to obtain the supplies you need by working with the supplier through a reverse factoring arrangement.
The only drawback is that some factoring arrangements may require you to have strong business credit, though established businesses will usually be eligible.
Comparison Factoring vs. Reverse Factoring
What are the differences between traditional factoring and reverse factoring? Consider the following key points.
In traditional factoring:
- The seller initiates the financing process.
- Financing limits are determined by the seller’s financial history.
- The seller bears the greatest risk (invoices may or may not be paid).
In reverse factoring:
- The buyer initiates the financing process.
- Financing limits and terms are determined by the buyer’s financial health.
- The buyer assumes the risk, though terms are agreed upon upfront.
It’s also worth noting the relative popularity of traditional factoring versus reverse factoring. Historically, classic factoring has been the most popular method, though reverse factoring can be ideal for cannabis businesses that struggle to navigate economic turbulence or for cannabis entrepreneurs who struggle to obtain traditional forms of business financing.
Guidelines for Choosing the Right Factoring Solutions for Your Cannabis Business
How do you choose the right factoring solutions for your business? Here are some considerations for cannabis business owners as you compare traditional factoring with reverse factoring.
Financial Status of the Company
Your company’s financial health plays a major role in choosing a factoring company. For instance, if you’re having cash-flow problems, it might prompt you to opt for invoice factoring to gain access to financing. If your financial history is subpar, it may be harder to secure low rates and terms for a reverse factoring financing option.
Flexibility of the Arrangements
Part of the benefit of factoring is that it introduces additional flexibility in your payment terms. If you’re the buyer, a flexible reverse factoring arrangement might help you cover the cost of supplies and equipment even if you lack the current finances to do so.
And if you’re collecting funds from past customers, you’ll want a traditional factoring agency that doesn’t lock you into long-term contracts or assess surcharges or other fees.
Customer Service Support
Factoring arrangements are flexible by nature, but that can also mean you’ll need additional assistance with maintaining the arrangement. For example, if you rely on classic factoring to collect unpaid invoices, you’ll want a factoring service that provides transparency so you can track your income.
You’ll also want a factoring provider that offers continued support for all your questions and concerns.
Pricing
To maximize the benefits of factoring in your cannabis business, you need a service with costs that won’t eat into your bottom line.
While traditional factoring can give you faster access to cash, the costs may prohibit you from relying on these services as a regular form of payment. As with any financial provider, compare rates and prices between at least three providers to ensure you receive the best deal.
The Financing You Need for Your Cannabis Business
Cannabis entrepreneurs face something of an uphill battle when it comes to financing. Because cannabis is legal on a state-by-state basis, cannabis loans aren’t available from traditional lenders. Factoring can provide a flexible financing strategy, and the guide above can help you decide between traditional factoring and reverse factoring.
Frequently Asked Questions
How is reverse factoring different from factoring?
The difference between traditional factoring and reverse factoring is which party initiates the deal. In traditional factoring, the supplier initiates the arrangement. In reverse factoring, the buyer initiates the arrangement, usually to negotiate flexible payment terms.
Why use reverse factoring?
Reverse factoring can be a way for buyers to navigate economic uncertainty, as the factoring arrangement can introduce flexibility to the payment terms. Reverse factoring can allow buyers to purchase supplies, inventory and equipment at terms and interest rates that reflect their financial history.
What is the difference between reverse factoring and payable finance?
Payable finance is sometimes considered to be a form of reverse factoring. In payable finance, buyers agree to the terms of the factored invoice and commit to paying at the date of maturity — something that can happen with other forms of reverse factoring, though it is not always required.
About Sarah Edwards
Sarah Edwards is a CBD and cannabis writer passionate about empowering people with accurate, engaging and accessible content about both industries. She has nearly a decade of writing experience focused on cannabis and CBD culture, science and business. Her work has been published on Cannanine and The Hemp Haus.