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FACTORING CAN PROVIDE CASH FLOW BALANCE
In recent years an increasing number of businesses have discovered that factoring accounts receivable can combat the ups and downs of cash flow cycles. More importantly, factoring companies provide the small- to mid-size businesses with working capital when conventional financing is not an option.
Factoring is the purchase of credit-worthy accounts receivable in exchange for immediate cash. Put simply, you sell a current credit-worthy invoice. Invoices are great assets because the work is either already done or the product has already been delivered, and you are just waiting for the check to come in the next 30 - 45 days. Usually, businesses need the money owed them well before their customers pay - even if the customers pay in a timely manner.
Factoring companies do the waiting for you. Depending on the agreement, businesses can pick and choose which invoices they sell to a factor, who advances 80 percent, or more, of the face value within 12-24 hours after the invoice was generated. The balance of the funds, less the discount fee, is released when the factor collects on the invoice. The cost of using a factoring company is the discount taken on the invoices submitted for funding. Fees range from 3 to 10 percent, depending on volume, creditworthiness of the customer being invoiced, and overall risk. Although the fees sound steep, most factoring clients increase their revenue by much more than the cost of the service because they have cash for operating costs and market growth. Most factoring clients absorb the costs into their pricing and take a tax deduction for the business expense incurred for the factor's services.
In addition to providing immediate cash on invoices the factor performs credit analysis on new and existing customers and conducts professional, routine follow-up on invoices as they become due. Business consultation and monthly updates are also part of the service.
Factoring allows the owner or business manager, who spends a good portion of the day collecting, bookkeeping, and searching for capital, to focus on sales and production. Other benefits include:
- Improved credit rating
- Ability to take trade discounts
- Ability to take volume discounts
- Reduced late payment penalties and interest charges
- Reduced overhead
- Offer credit terms to customers
- Meet obligations on time
- End payroll and tax payment worries
Candidates
Factors help start-up companies in their first few years of business, as well as companies that are experiencing growth that is outpacing their cash flow. Businesses that need turn-around help are also able to utilize a factor's services. Among the few businesses that don't use factors are consumer-based businesses such as retailers, lawyers, doctors and the construction industry. Factors are able to assist most other industries because they are primarily interested in four things:
- The business is properly licensed and registered.
- The product and/or service is of consistent and acceptable quality.
- Invoices are creditworthy, accurate and verifiable.
- The factor can perfect a priority position over all receivables.
Currently, over $62 billion in invoices are factored in the United States each year. In the last 10 years the volume of invoices factored has increased by $10 billion. The overall increase is mainly attributed to the credit crunch in the late 80s. As the availability of commercial credit from banks tightens, more businesses look for alternative sources of financing to achieve growth.
Finding a Company
Each factor operates a little differently. Some things to consider include:
- Are there additional costs besides the cost of the time the money is out?
- Are there set up fees, maintenance fees, or other penalty fees?
- Does the factor provide additional credit services on existing, new or future debtors?
- Does the credit service cost extra or is it part of their service?
- Does the factor supply monthly reports on the status of your account?
- What value-added services are provided?
- What is the depth of the factor's knowledge?
- How much experience does the factoring company have?
Getting in touch
Most business bankers are a good referral source for a reputable factoring company. Other sources might be your suppliers, customers, colleagues and business consultants. Bankers refer to factors because they realize that although the customer may not be bankable at the time of the referral, the company could soon become a viable candidate for conventional financing. Factoring is considered a short-term financing solution to cash flow problems. Factoring relationships generally last for six months to several years.
Getting started
Setting up a factoring relationship is quick and easy compared to other forms of financing. Applications simply call for basic company information and a customer list. It is possible for funding to occur in as little as a few days after receipt of the application and invoices.
By Kristin Atkinson, Communications and Marketing Coordinator for Olympic Credit Fund, a national factoring company.
For more information, contact Olympic Credit Fund, 1800 Cooper Point Rd., SW, Bldg. 5, Olympia, WA 98502, 800-231-3878, FAX 360-956-1514.
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