Sunday, March 19, 2023

Maximizing Working Capital with Receivables Finance / How To improve Cash Flow With Financial Factoring



 

YOUR COMPANY IS LOOKING FOR  RECEIVABLE FINANCING!

ACCOUNTS RECEIVABLE FINANCING SOLUTIONS IN CANADA VIA COMMERCIAL FINANCE COMPANIES

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Financing & Cash flow are the biggest issues facing businesses today.

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South Sheridan Executive Centre
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Oakville, Ontario
L6J 7J8

The Benefits of Financial Factoring for Small Businesses: Managing Cash Flow and  Risk 

 

 

Receivables finance in Canada is a solid fix when companies are on the brink of a collapse of cash flow. But do business owners / financial managers really understand the ' math ‘around ‘ financial factoring ‘? Let's dig in.

 

Receivable financing, aka ' financial factoring,'  is a valuable source of cash flow for businesses looking to maximize working capital. By selling, or assigning receivables to a specialized finance company ( factoring firms ) businesses obtain immediate cash for sales made to clients . Businesses with slow-paying clients or who grant extended terms to certain clients can reduce the strain of negative cash flow.

 

 

WHAT IS ACCOUNTS RECEIVABLE FACTORING? 

 

Accounts receivable (A/R) factoring is sometimes called invoice discounting - This business financing solution is a form of short-term financing that does not bring debt to the balance sheet. Business borrowers use a commercial accounts receivable factoring company as an alternative to traditional bank financing to fund unpaid invoices. 

 

This method of cash flowing a balance sheet asset ( receivables ) is a business funding solution for companies to sell to clients on trade finance terms, extending typical terms in the 30-60 day range to customers. 

 

A business's receivables often represent the largest and most liquid current asset on the balance sheet. Companies looking to accelerate cash flow utilize this method of financing working capital which allows them to enter into a factoring agreement that in effect, sells the receivable to the business lender/financing company at a discount.

 

The benefit? No more waiting for client payments and generating immediate cash flow for products and services sold to customers; some forms of A/R finance allow a company to transfer credit and collection risk to the factoring company.

 

 

"The lack of money is the root of all evil." - Mark Twain

 

At  7 Park Avenue Financial, we think Mr. Twain had it right - that's why the key to understanding this option's benefits in Canadian business finance is ensuring you know how the math works in accounts receivable factoring.

 

Simple perhaps? But it is often significantly misunderstood regarding short-term financing for any invoice amount. Simultaneously, this type of financing may be viewed as a business loan, but that is incorrect - its cash flowing your assets, specifically a/r, allowing companies to fund day-to-day operations for their business needs.

 

 

WHAT ARE THE BENEFITS OF RECEIVABLE FINANCING? 

 

There are numerous benefits to receivable finance:

 

Cash flow immediately improves as a company receives immediate cash, at their option, for some or all outstanding invoices financing - this allows for better cash flow management and allows a company to meet short-term obligations around accounts payable and other short-term cash needs-  Better cash flow management and credit risk management are keys to understanding the benefit of proper a/r finance and better financial forecasting and planning for growth.

 

Certain forms of  a/r financing, such as traditional non-notification finance, allow a business to transfer credit and collection risk to the factoring lender - This is known as non-recourse financing - this eliminates bad debt risk and overall bad debt management - International trade financing and supply chain financing can be achieved via structured factoring solutions.

 

A/R financing is  the monetizing of a business asset - as such, no debt comes on the balance sheet and improves overall bad debt and liquidity ratios around DSO and inventory management.

 

Factoring companies and asset-based lenders fund receivables daily, so businesses receive cash the same day they generate an invoice to clients - this quick turnaround is a key benefit of receivable finance

 

The majority of receivable finance facilities are specifically tailored to the business needs of the company - Businesses have the option to fund some or all of their sales, and the company can choose the amount f financing as it is needed - Facilities are increased automatically as sales revenues grow - so not pre-defined credit limit will limit sales and cash flow growth.

 

Small business owners will be pleased to know they receive the cash the same day for financing under a factoring solution. Owners will be pleased to know that you can eliminate the notification by a third party by considering the Confidential Receivable Financing solution.

 

HOW DOES ACCOUNTS RECEIVABLE FACTORING WORK?

 

When businesses don't qualify for some... or all of the financing they need (especially when growing), financial factoring becomes an excellent capital source for cash flow.  Typical advances are in the 80-90% range based on receivables under 90 days old. (Accounts receivable greater than 90 days old infers potential collectibility) 

 

The balance of the receivable, i.e. the additional 10-20%, is a temporary holdback released as soon as your client pays into a bank lockbox set up in the factoring agreement.

 

Business owners and financial managers finance receivables at a discount to the face value of the invoice - The cash amount they receive on the invoice is known as the advance rate - The typical advance rate is usually a 90% rate, and the company receives the final 10% when the end user customer pays the invoice, less the financing cost, which is expressed as a fee, not an interest rate

 

This process is similar to a bank financing receivable pledge, where banks take an assignment of the receivable and a security interest against the company and use a loan to a value of only 70% as a borrowing base the customer can draw down on. That is the main difference between a factoring company and traditional commercial lenders like banks.

 

So far, so good.  Here's where a common-sense understanding of arithmetic comes in. Let's assume your company has a gross margin in the 40% range, not uncommon, depending upon your industry.

 

 

RECEIVABLES FINANCE EXAMPLE BENEFIT

 

 

Using a $ 10,000.00 invoice as an example, your gross margin of $4000.00 can be put to work the same day you issue that invoice, for the simple fact that a Receivable Finance solution provides you same-day cash ( if you choose ) for sales revenue generated by your firm. 

 

The benefit? Your newfound ability to generate even more sales and profits by putting that cash to work in a same-day timeframe.

 

ACCOUNTS RECEIVABLE FINANCIAL FACTORING ANALYSIS EXAMPLE

 

Many businesses fail to recognize or calculate   ( there's that understanding the math again ) the cost of carrying receivables and being unable to take ' QUICK PAY ' supplier discounts that vendors offer.  While the cost of accounts receivable financing is typically a .75- 1.25 % fee to the factoring company, that amount alone can often be recovered by taking vendor discounts!

 

For customers with access to ' all ' the bank credit they need, that might seem like not a big deal, but for firms that are forced to self-fund and manage cash flow almost hourly, that becomes a huge consideration.

 

Canadian businesses can choose between non-recourse accounts receivables factoring, and recourse factoring based on their desire to hold their regular credit risk and bad debt risk or transfer it to a third party.

 

The main ' misunderstanding ' around the cost of financial factoring of receivables is that bank rates need to be viewed as an annual borrowing cost. At the same time, accounts receivable financing is a fee, not directly comparable.

 

 

WHAT IS THE BEST ACCOUNTS RECEIVABLE FINANCE SOLUTION? 

 

Traditional Canadian factoring solutions come from U.S. and British firms that have successfully marketed the same offering for hundreds of years.  We encourage clients to consider ' Confidential Receivables Finance ‘solutions that mirror a bank facility's day-to-day operations - most notably, your ability to bill and collect your own accounts without notice to clients, suppliers, etc.

 

KEY TAKEAWAYS - MAXIMIZING WORKING CAPITAL AND CASH FLOW WITH RECEIVABLE FINANCING FINANCIAL FACTORING

 

Accounts receivable factoring solutions are a source of financing for any business selling on trade finance credit terms.

 

Companies sell or assign receivables in exchange for immediate cash as sales and invoices are generated for customers.

 

A/R non-bank finance solutions and the factoring fee are more expensive than traditional bank lines of credit, but funding advance rates are higher, and there is unlimited capital available as the business grows

 

 

"Never spend your money before you have it." - Thomas Jefferson

 

 

CONCLUSION - FACTORING AND ACCOUNTS RECEIVABLE FUNDING SOLUTIONS VIA FACTORING COMPANIES

 

Financing accounts receivable and invoice factoring is a key aspect of any business looking to improve its working capital.

If you feel you might be missing the right considerations in accounts receivable finance in Canada or want to rescue your cash flow ' from the brink. '

 

Call   7 Park Avenue Financial, a trusted, credible, experienced Canadian business financing advisor who can assist you with your receivables and small business financing needs - helping you achieve balance sheet financing and working capital success for your business needs. Letting Canadian businesses benefit from this asset-based funding now utilized by thousands of firms.

 

  
FAQ: FREQUENTLY ASKED QUESTIONS / PEOPLE ALSO ASK/ MORE INFORMATION

 

 

What is receivables finance, and how does it work? 

Receivable finance is also known as financial factoring. It is a form of business financing for a firm to sell accounts receivables to third-party financial firms known as factor companies. Invoices are sold at a discount for immediate cash. When clients pay the invoice, the factoring company keeps a fee for financing the transaction. Both banks and factoring firms will focus on any large concentration risk in the accounts receivable portfolio and the eligibility criteria associated with either bank or factor financing.

 

 

How can receivables finance help me manage my business's cash flow and credit risk? 

Receivables finance helps companies manage credit risk and cash flow by allowing the business to receive immediate cash for sales made to clients. In traditional notification factoring solutions, the factoring company assumes collection risk and under non-recourse facilities, a business can eliminate bad debt risk.

 

What are the different types of receivables finance, and how do I choose the right one for my business?

The different types of receivable financing include non-recourse factoring, recourse factoring,  and invoice discounting. The business borrower must assess payment terms and advance rates, how they wish to manage or absorb credit risk and other factors such as factoring fees/financing costs when choosing a receivable finance provider for a cash flow financing solution.

 

Recourse factoring solutions specify that credit risk remains with the borrower, while non-recourse financing has the factoring company assuming bad debt, collection risk, and default.

 

Traditional factoring solutions are notification-based and require invoice verification by the factoring company - The customers of the business are notified of the transaction, and payments are made directly to the factoring company. In non-notification, a/r finance, also known as confidential receivable financing, clients of the company are not aware of the financing transaction

 

Some businesses choose ' spot factoring ', aka selective receivables financing,  which allows a single ' one of ' transaction to be financed based on new invoices selected to be funded by the company.

 

What factors should I consider when selecting a receivables finance provider?

When a business selects a receivable financing provider, key factors to consider include expertise and reputation, the factoring advance rate/holdback reserve, and financing cost related to factoring fees. The lender's due diligence process around the company's business model should also be considered as well as how the factoring company takes responsibility for day to day collections.

 

 

What common challenges are associated with receivables finance, and how can I overcome them?

 

 

Common challenges associated with receivable financing solutions include how customer disputes on invoices are settled and how payment delays will be addressed with the end user customer. The ability of a firm to focus on clear payment terms with clients and an overall sound credit and collection policy will reduce risks associated with receivable finance.

Companies should also be aware of concentration risk, as some factoring companies prefer a more extensive base of business clients versus one or two substantial clients. Concentration risk can also be limited with third-party credit insurance, which can be purchased separately or in conjunction with the factoring company.

 

 

Is factoring receivables financing?

 

Yes, factoring is a form of receivables financing and cash flow management - in a factoring solution, a company enters into a factoring agreement to fund outstanding invoices. Specialized finance firms, known as ' factors, ' purchase invoices generated by the company for immediate cash. Factors collect the receiveable and charge a fee for the services. Factoring services are one of the largest types of alternative financing and is an alternative to traditional bank loans and bank lines of credit. The factoring financing companies take responsibility for collections under invoice financing when a business chooses selling unpaid invoices.

 

What is factoring versus receivables finance?

 

Accounts receivable factoring solutions and operation lines of credit are both a financial transaction and a form of receivable financing. Business owners can fund working capital via  a/r factoring or a traditional line of credit.

Issues to consider in the choice of  A/R financing include the interest rate associated with the credit facility, Operating lines of credit are less costly. Bank credit lines have the lowest cost of working capital financing based on current bank prime rates, Factoring solutions are more costly but are also more accessible with factoring rates in the range of 8% per annum to 1.15% per month for the majority of facilities.

Banks margin accounts receivable at a lower rate and determines the margining of facilities based on annual reviews and credit limits. A/R factoring solutions do not necessarily have any limits and can provide unlimited financing for company sales growth.

 

Bank lines of credit have borrowing margins in the 70-75% range, while factoring firms offer a more generous 90% advance rate, inferring higher borrowing power for cash flow needs - Many businesses choose to factor due to the higher borrowing margins and loan to value calculation associated with factoring, as well as the fact that the factoring company pays the business the same day invoices are submitted for funding.

 

Bank borrowing will typically focus on the general working capital management needs of the business and banks place certain restrictions on the use of funds s well as requiring potential additional collateral and personal guarantees of business owners. Factoring companies do not specify any restrictions on how the business utilizes cash. In some cases businesses experiencing some form of financial trouble will access factoring in lieu of attempting to access bank funding solutions.

 

 

What are the methods of valuing accounts receivable? 

 
A company can choose two different methods to address bad debt risk accounting and payment risk - either the direct write-off method of an invoice value on the outstanding receivables,  when a company deems a receivable uncollectable or utilizing a general allowance for bad debts recorded on the balance sheet based on perceived bad debt risk and experience via credit risk management.

 

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