Factor

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DEFINITION of 'Factor'

A financial intermediary that purchases receivables from a company. A factor is essentially a funding source that agrees to pay the company the value of the invoice less a discount for commission and fees. The factor advances most of the invoiced amount to the company immediately and the balance upon receipt of funds from the invoiced party.

BREAKING DOWN 'Factor'

For example, assume a factor has agreed to purchase an invoice of $1 million from Clothing Manufacturers Inc., representing outstanding receivables from Behemoth Co. The factor may discount the invoice by say 4%, and will advance $720,000 to Clothing Manufacturers Inc. The balance of $240,000 will be forwarded by the factor to Clothing Manufacturers Inc. upon receipt of the $1 million from Behemoth Co. The factor's fees and commissions from this factoring deal amount to $40,000.

Note that the factor is more concerned with the creditworthiness of the invoiced party - Behemoth Co. in the example above - rather than the company from which it has purchased the receivables (Clothing Manufacturers Inc. in this case).

Although factoring is a relatively expensive form of financing, factors provide a valuable service to (a) companies that operate in industries where it takes a long time to convert receivables to cash, and (b) companies that are growing rapidly and need cash to take advantage of new business opportunities.

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