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Your company just delivered an order to a major customer “right on time.” Now, let’s move on to the next order.
But hold it, there is a problem: No funds! It will be at least 45, maybe 60, or even 90 days until the invoice gets paid. Oh, there will be no money problem with this customer, but that does not help today. Cash is needed now to meet necessary expenses such as payroll.
Here are all the ‘traditional’ ways of raising cash.
1. Line of credit: The most prevalent form of financing available to businesses. The bank authorizes a specific amount of money the company can withdraw — loan on demand. Repayment is made in a specific time period and in amounts based on outstanding balance.
Pro: Funds are readily available and interest is payable on outstanding loan only.
Con: The company must provide security for the loan. Line of credit may be too low for aggressive growth. Due to strict new loan regulations and policies, this form of loan is disappearing fast.
2. Fixed time loan: A set amount of money for a fixed time period.
Pro: No payments are required until the end of the loan.
Con: The entire amount is due at once. The credit rating and security of your company determines if the loan is available.
3. Accounts receivable loans: A loan against receivables. It is similar to actual ‘factoring.’
Pro: Less restrictive, lower cost.
Con: The credit rating and collection history of your company determines if such a loan is made. Since the bank is not able to verify with ease when the invoice is paid, this type of loan is practically extinct.
4. Inventory loan: An amount of money against the ‘salvage’ value of inventory.
Pro: Convenient, relative low cost, repayment geared to sales.
Con: The credit rating and collection method of your company is important. Because the lender has difficulty verifying inventory status and corresponding invoicing, this type of loan is rarely made.
If none of the above ways of raising cash is available for one reason or another, what options are there? The answer: factoring — the method everyone loves to hate.
Factoring is accounts receivable financing and has been around for hundreds of years right here in North America. Misconceptions about factoring abound even among business people, who mistakenly assume that factoring is only for companies in financial difficulties.
The volume of credit card purchases are by now well known. The merchant receives immediately cash minus a percentage from the credit card issuer. If the merchant had to wait until the credit card is paid by the customer, the store may be out of business by then. For the privilege of receiving the cash on the spot, the merchant willingly pays a fee of two to four-and-a-half per cent.
5. Factoring: Financing accounts receivables.
Pro: The merchant receives cash in 24 hours or less. The creditworthiness of the customer is more important than that of the supplier. (Especially for growing companies.) Yet it improves the credit status of your own company. Factoring improves collection and account receivables. Customers who usually pay in 60 days, may now pay in 30 days. Your company avoids dilution of ownership, equity and ownership. You are able to take advantage of trade discounts. Working capital turnover increases. There is now a large supply of lending funds not otherwise available. And sales increase through credit extension.
Con: Factoring is not as closely regulated as banking. And it has a higher cost than banking.
Many companies, even those with very low profits, have doubled and tripled their sales in a very short time with factoring. Yet it is not a panacea. If your company is already borrowing heavily, address the problem rather than seeking additional funding. Deal with a factoring company that has the capacity to finance up to $2 million per month and has offices around the world. (Remember, your customer may be in another continent). If the factor is backed by a major financial institution, you are in good hands.
Rates may range from three to 14 per cent, averaging five to six per cent of the value of the receivables. You should never be asked to pay an application or processing fee. And a complete proposal, with all the terms, should be provided at no cost.
A factoring company with a variety of services is more likely to satisfy your special needs. Factors use brokers. Deal with brokers that know factors with the best rates and quickest approval.
Although factoring fees are five times that of the interest rates at a bank, it may still be the best solution to your business, especially for a new or growing company. A bank may cut you off once your credit is exhausted and may even call the loan.
Factoring on the other hand will never ‘gag’ you just when business is booming. You receive substantial administrative support and receive important credit information on your customers.
A few terms you should be familiar with:
Advance Rate: The amount of cash the factor advances you immediately (upon approval). This ranges from 70 to 95 per cent.
Discount Rate: The percentage of the invoice which the company keeps for itself (fee). This is determined by the volume of business you give to the factoring company and the credit rating of your customers. A government invoice is more valuable than selling to no-name companies.
Recourse and Non-recourse: Liable or not liable. Fees are lower if you agree to purchase any uncollected receivables after a predetermined age.
Written by Karl Kruning who represents International Revenue Service Inc., a factoring company with services worldwide. He can be reached at (416) 502-3469.
Source: FindArticles.com

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