FASTRAC

November 2003
Presented to the Foundation for Enterprise Development in 2003

 

IS FACTORING FOR ME?

By: Patricia J. Burns, President
Primary Funding Corporation

 

WHAT IS FACTORING?

Factoring is a financial service that allows a business to expedite their cash flow by selling their accounts receivable. Factoring also provides a company with valuable credit and collection management services. Traditional factoring provides credit guarantees and these factors are known as non-recourse factors.

 

WHY IS IT USED?

Factoring is used as a tool by businesses to control production by enhancing cash flow. The predictability of cash flow enables a company to stock products, to meet payrolls, to take advantage of trade discounts, to keep their bills paid current, to extend credit to their customers and to accelerate growth.

Although factoring is primarily used to accelerate cash flow, the services are often found more beneficial than the funding. A factor offers an outsourcing service which effectively converts a credit sale to cash. With the ability to meet cash flow demands, the extension of credit becomes more tempting and more challenging.

A true factor is an expert in the field of credit and can assist you in making prudent decisions without delaying or inhibiting the sale. A factor will pre-check credit, make guarantees and monitor collections of those accounts being serviced. They become your service provider for cash flow and take on the responsibility of collections. This is a benefit to you and is the primary strength of the factor.

 

WHO USES FACTORING?

Factoring has been traditionally used in the garment and textiles industries better known as the retail trade. However, today factoring is provided to nearly every industry from manufacturers to temporary help agencies. Companies use factoring to extend credit and grow at an accelerated rate. Companies use factoring as a contracted service to complement their business with credit and collection management. Companies use the funds of a factor in lieu of bringing in more capital and hiring additional staff. Factoring is also used to manage seasonal peaks and in place of a term loan because of the non-debt structure. It is a simple tool and when used properly factoring can be very effective.

 

WHAT ARE THE MECHANICS?

Once your business has been approved, the factor will require that you provide your original invoicing together with all related documents required to validate and pay your invoice. A factor finances transactions so expect to provide these documents with every request for funding. These requests are generally no more than what you would expect from your customer to justify your billing and paying you directly.

The factor will spot check your invoices for accuracy, verify the indebtedness with the debtor and notify the debtor to pay the factor. Once this has been completed, the factor will advance funds against those accounts approved. Most factors guarantee funding within twenty-four hours so long as the factor's criteria have been met. This means that for products or services that you are delivering today, you should have access to immediate cash from your factor.

The factor notifies the debtor to pay them directly. If the account is not paid when it matures then the factor will contact them directly for a schedule of payment and then follow up according to the commitment. This process for most small businesses is difficult to manage because of the balance between sales and credit. But by using a factor, you have effectively contracted out this conflict. It should allow you to focus on the productive side of your business without the worries of daily cash flow demands.

A factor should provide you with a continued flow of reporting and dialog as to the status of your accounts. You should expect to get what you pay for. If your factor is a non-recourse factor, then they have an investment in your portfolio and are more inclined to provide a higher level of service. You should expect that after the initial startup phase with your factor that the services compliment your business and the mechanics become somewhat transparent.

 

AM I CANDIDATE?

Most companies could benefit by the services of a factor. If you find that your growth is stifled because of cash flow, you are a candidate. If you find that you are turning away business because you can't afford to extend credit and carry the receivable, you are a candidate. If you are concerned with your ability to meet payrolls because of unpredictable cash flow you are a candidate. If you lack experience making collection calls, you are a candidate. If you are unsure of how to extend credit and are unwilling to gamble with credit decisions, you are a candidate. If your business has seasonal peaks that create cash flow dilemmas, you are a candidate. If you don't wish to commit to long term debt and yet can benefit from addition sources of working capital, you are a candidate. If you are not ready to sell off part of your business to accommodate growth, you are a candidate.

 

HOW WOULD I BENEFIT?

Factoring is a very simple tool that provides you with predictable cash flow. Don't allow your marketing efforts to go unrewarded by turning away business because you can't afford to manage the extension of credit. Could you benefit from a knowledgeable and experienced professional credit manager? A factor provides primary funding when many other traditional sources simply won't consider financing your business. Many businesses take off with the funding support that a factor provides. All companies benefit from knowing that they have available cash to meet their financial commitments.

 

HOW SHOULD I SELECT THE RIGHT FACTOR?

You should select a factor by finding someone who understands and complements your industry. Selecting a factor is much like selecting a banker, an accountant, a lawyer or an employee. They are a service provider and are being hired to service your needs. You should understand the level of services your factor is capable of providing to you. Not all factors provide the same level of services.

Pricing is generally competitive. However the level of administration required, services provided, risk that is taken and the ultimate volume that you offer will play an important role in determining the price you are quoted. Fees are often difficult to understand because they are a combination of cost of funds, services performed; guarantees made and perceived risk that the factor takes. Therefore, you should not compare a factor's rate to traditional finance charges.

It's easier to evaluate fees on a transaction basis. Determine the length of time your average sale is outstanding. Could it be paid faster if you were managing your collections differently? What are the cost associated with the loss of sales due to the inability to turn your receivables? Now what would you pay to eliminate these burdens? Select your factor like you would an employee. They are the caretakers of your portfolio.

 

HOW DO I GET STARTED?

To qualify for factoring you will need to fill out an application for services and expect to provide your factor with a security interest in the personal assets of your business. You will be required to provide a list of your customers and your factor will want to review transaction history. A factor will want to check your credit as well as your customers. Although capital strength is not a primary requirement, your credit integrity is. Factors do not qualify you for a loan, they qualify your accounts receivable as collateral.

Funding will generally occur once you have satisfied your customer's requirements. The factor will generally require proof that these requirements have been met. Your level of advance for funding is generally related to your industry and acceptability of your products or services. There are few other assets that the factor has to fall back on if the customer does not pay. Therefore, the factor will generally cushion themselves by advancing an amount less than face value. They then will rebate or refund, less their fees, the difference once the bill has been paid.

Factoring is a financial tool used by growth oriented business to increase working capital. However, factoring complements the sales cycle by defusing or mitigating the internal credit and collection requirements. If you feel you could benefit from factoring services or would like to have additional information please contact Primary Funding Corporation.