One reason factoring is considered high-cost is that the wrong basis for cost comparison is often used. If A/R turns 12 times a year and your average net cost paid to the factor is 6% on each invoice, then the resulting 72% seems high compared with borrowing from the bank at 10%. The cost may still seem high after counting what you save, directly and indirectly by not having to maintain your own A/R staff. But since you are by definition strapped for cash to begin with, how would you pay the bank back? And if there is no adequate payback plan, what bank would lend you money in the first place? So, the bank at 10% versus the factor at 72% is really not the appropriate comparison if bank financing is not available. The real comparison should be with the additional dollars of contribution margin you earn on the incremental sales that you can ship because you don’t have to carry all the A/R balances. A final note on cost comparisons: For a great many enterprises that do use factors, the only real alternative for raising additional capital is selling equity, and even in cases where that choice is feasible, it is likely to be still more expensive.

The second major reason factoring is often overlooked as a financing option is simply a knowledge gap. Many people still think of factoring as a specialized tool for just the garment and related industries, where it got its start. But any firm with good-quality receivables from businesses or government entities can qualify for a factoring relationship. You should consider that option whenever conventional lower-cost methods are
not available, or when the administrative A/R functions the factor can perform are a priority for you. Most often, as mentioned earlier, a high degree of seasonality in your order flow may make maintaining an adequate A/R function of your own too expensive on a year-round basis.

One way or another, whether on your own or through a factor, no sooner do you get on top of A/R management than you realize that you have almost as much money tied up in inventory as you did in A/R. Thus, we look next at swing factor number two—inventory.

Taken From : Cash Rules