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ALTERNATIVE WORKING CAPITAL FINANCING OPTIONS FOR BUSINESSES
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Financing & Cash flow are the biggest issues facing businesses today
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GUIDE TO WORKING CAPITAL FINANCE SOLUTIONS - WHAT YOU NEED TO KNOW
"Working capital management is a discipline that requires daily attention and continuous improvement." - Unknown
Accounts receivable financing is becoming more and more popular as an alternative financing and working capital financing solution for Canadian business owners and financial managers.
WHAT IS WORKING CAPITAL FINANCING?
Working capital finance is the funding of your business's day-to-day operations that provides cash flow to cover short terms expenses of the business. Typical expenses include salaries and payroll, short-term liabilities such as rent, and the purchase of inventory. To run a business successfully cash flow is needed to operate and grow the business and a number of solutions / business loans are available.
There are a number of sources of working capital loan financing - working capital loans, revolving credit facilities via a business line of credit, supplier financing, and a/r financing- aka ' factoring ' receivables for business customers.
WHAT IS FACTORING?
Factoring A/R is a true form of an asset financing arrangement. Your company uses its receivables - ' AR ' as collateral in a financing arrangement. The financing can be on one receivable, all your receivables, and, more commonly, some or all of your receivables on an ongoing basis.
The industry tends to refer to the term 'factoring' as the day to day description of accounts receivable financing.
"Poor cash flow is the biggest killer of small businesses." - Robert Kiyosaki
THE ROLE OF A/R FINANCING FOR BUSINESS GROWTH AND EXPANSION
Factoring or receivable financing allows Canadian business owners to receive immediately, on billing, cash for the receivable. A portion of the invoice is always held back, representing a traditional 'holdback' plus some of the lender's financing fee. We would point out that the holdback is always paid back to your firm as soon as your customer pays the invoice.
The company receives an amount that is equal to a reduced value of the receivables pledged. The age of the receivables has a large effect on the amount a company will receive. The older the receivables, the less the company can expect - Generally speaking, invoices over 90 days cannot be sold - therefore no cash flow will result in those items.
WHAT'S THE BEST RECEIVABLE FINANCING FACILITY AND HOW DOES IT WORK?
At 7 Park Avenue Financial, we recommend Confidential Receivable Financing as our recommended solution for clients with monthly receivable portfolios in excess of 250k. There is virtually no upper dollar limit on this type of facility. Under this type of non-notification financing your firm bills and collects its own receivables, with no notice to any clients, or suppliers,. etc. Your company receives all the benefits of a/r financing and factoring with none of the pain!
Another related alternative to your a/r financing needs is Purchase Order Financing, which facilitates the funding of your large orders or contracts if financing can't be arranged for that type of order. The solution pays your suppliers and allows you to take on large orders and contracts to propel business growth and profits.
NON-RECOURSE VERSUS RECOURSE FINANCING - HOW IT WORKS
Factoring, or accounts receivable financing helps companies unlock capital that is invested in accounts receivables. Accounts receivable financing on some occasions transfer the default risk associated with the accounts receivables to the financing company; this type of facility is set up as a non-recourse facility, meaning the lender or finance firm that is doing your factoring in fact accepts the credit risk associated with the ultimate collection of your accounts receivable.
How does the lender do that - quite frankly the receivable portfolio originated on your customers in effect is 'insured' by the lender. We will let you guess who pays for that and if it is included in your cost of financing. Yes, you are right, you pay. Typically the cost of such insurance adds at least a percentage or two to your cost of financing.
The Canadian marketplace is dominated by a variety of firms that will factor accounts receivable. These firms are either divisions or subsidiaries of large U.S. or other foreign countries, or they are smaller Canadian-owned, operated and funded firms. Typically the latter type of firm, the Canadian single entity, has difficulty in accessing all the funding it typically might need for a large number of transactions. The factoring business requires a significant amount of capital.
When a Canadian business originates an account receivable financing it is prudent for the company to ensure they understand the overall profile, reputation, and capabilities of the firm that will be financing your accounts receivable.
Unless the business owner negotiates a very special type of facility the accounts receivable financing firm generally has a good amount of customer contact with your customer base; they will want to validate your invoices, confirm customer acceptance of your invoice and products and services, and in most cases follow up directly with your customer for payment.
In summary, Canadian firms can increase cash flow by the use of the alternative financing method known as 'accounts receivable financing', commonly called factoring. Cash is secured for your receivables soon that your customer actually paying for it - As we have pointed out that comes at a cost in both financing cost as well as some level of customer intrusion.
THE BENEFITS OF EFFECTIVE WORKING CAPITAL FINANCING
Effective working capital solutions such as factoring and other types of a/r financing provide numerous benefits for a business via surplus capital - Those benefits include :
The ability of the company to cover temporary gaps in cash flow to fund payment obligations - along with effective accounts payable management a business can maintain liquidity
Working capital solutions typically bring no debt to the balance sheet and do not require additional collateral as well as a limited emphasis on personal guarantees
Short-term working capital and accounts receivable financing solutions are faster to obtain and are often tailored with a strong level of flexibility for the borrower - Traditional lending financial institutions such as banks are known for longer credit approval timelines as well as often demanding additional collateral
Effective working capital financing and management improve asset turnover in key areas of the business such as accounts receivable and accounts payable and leads to greater profitability and return on assets. Additionally, these types of financing are 'non-dilutive' and do not require any equity transaction or ownership change.
Typically these financings increase as sales and business assets grow!
KEY TAKEAWAYS - WORKING CAPITAL MANAGEMENT
" Don't ignore working capital " Thats from a great Harvard Business Review article
Businesses use working capital finance solutions to fund everyday operations
Short-term financing solutions around working capital needs should not be used for the purchase of long-term assets or investments in long-term operations
Businesses that experience seasonality or cyclicality in their business model or industry are prime candidates for short-term financing
Depending on the size and creditworthiness of the company good business and personal credit scores are required
CONCLUSION - UNDERSTANDING BUSINESS WORKING CAPITAL NEEDS AND CASH FLOW
Canadian business owners should dutifully look into who they are dealing with, their capabilities and their procedures.
Speak to 7 Park Avenue Financial, a trusted and credible expert with a track record of business finance success to determine their best receivable finance/working capital and business loan solution.
FAQ: FREQUENTLY ASKED QUESTIONS / PEOPLE ALSO ASK / MORE INFORMATION
What is working capital financing?
Working capital financing is a borrowing arrangement to fund the daily operations of a business when a firm does not have consistent cash flow. Proper business financing solutions allow a business to achieve optimal business growth via business financing solutions such as short-term loans, lines of credit and overdrafts, and accounts receivable financing. Steady cash flow allows a company to sustain its growth objectives.
Businesses of all sizes and in every industry will typically require working capital finance to expand sales and operations. The majority of small businesses in Canada utilize these solutions to bridge cash flow gaps and ' lumpiness' in cash inflows
Why is working capital financing important?
Working capital financing is important as it allows a business to maintain funds to continue the daily operations of a business - without access to a sufficient amount of working capital a company may not be able to meet short-term obligations or maximize growth opportunities in sales revenues,
What are the different types of working capital financing?
Different types of working capital finance include short-term working capital loans, lines of credit / a revolving credit facility, business credit cards, invoice factoring via trade credit receivable financing, and sr&ed financing solutions for refundable tax credits - Other ' venture debt ' type solutions include purchase order financing, MMR lines of credit, and merchant cash advances. Different needs and circumstances make every possible financing solution unique to a business based on sales and the company's balance sheet and businesses will only pay interest on amounts borrowed and used in any facility.
How does a business determine how much working capital financing the business needs?
Determining working capital financing needs are determined by examining the working capital ratio and operating cycle and asset turnover of a business in key current assets and current liability accounts such as accounts receivable, inventory, and accounts payable.
What factors should I consider when choosing a working capital financing provider?
In choosing a working capital financing provider for small business financing a company should consider factors such as interest rates on the facility, miscellaneous fees, as well as repayment term flexibility offered in the financing solution. Businesses should align themselves with reputable lending institutions and established financing providers who can meet the specific funding needs of the business.
SOURCES/CITATION
"What You Can Do About Excess Working Capital" by Michael C. Mankins and Lori Sherer, published in the July-August 2016 issue.
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"A Smarter Way to Improve Cash Flow" by Richard V. Hays and Frank V. Cespedes, published in the May 2014 issue.
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"The Most Neglected Fact About Cash Flow" by Philip Campbell, published in the May 2017 issue.
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"The Case for Behavioral Strategy" by Dan Lovallo and Olivier Sibony, published in the March 2010 issue (which includes a section on working capital management).
Click here for the business finance track record of 7 Park Avenue Financial
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