How To Decide if Financing Receivables Is a Solution for Your Working Capital Funding

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The R R Factor: A New Approach to Financing Receivables & Working Capital Funding in Canada

 

 

Understanding the Receivables to Revenue Ratio (R R Factor) 

 

We call it the Receivables to Revenue Ratio or simply the R R factor. Unlike rest and relaxation, the R R factor will guide Canadian business owners in recognizing the right time to explore advanced methods of accounts receivable financing and working capital funding.

 

The receivable-to-revenue ratio is a financial metric that provides insight into a company's ability to turn its accounts receivable into cash. It measures how effectively a company manages its credit sales and collections and helps alert to negative working capital.

 

Here's how you can calculate it:

 

Receivables to Revenue Ratio = (Accounts Receivable / Sales Revenue) x 100

 

 

Interpretation: What does the Receivables to Revenue Ratio Tell  Business Owners 

 

• Accounts Receivable: This is the amount of money owed to the company by its customers for goods or services that have been delivered but not yet paid for.

• Sales Revenue: The total amount of money the company earns from its products or services sales.

 

Measuring Your Receivables Revenue Ratio

 

• High Ratio: A higher ratio could indicate inefficiency in collecting and converting payments into cash. It may mean that a company is extending credit to customers who are not paying their bills promptly, which can impact cash flow and liquidity.

• Low Ratio: A lower ratio could indicate that a company efficiently converts its credit sales into cash quickly. It may imply strong credit policies and collection practices, ensuring that the money owed is collected promptly.

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In short, a receivable-to-revenue ratio is essential in assessing a company's liquidity and cash flow management. It offers insight into how well a company manages its credit policies and how quickly it's turning credit sales into cash. If mismanaged, it could lead to potential cash flow problems and increased risk, mainly if a significant portion of sales are made on credit.

 

The Importance of Calculating the R R Factor

 

Here's a powerful tool that's straightforward and potent in assessing cash flow challenges. It's called the receivables to revenue ratio, and by examining your year-end balance of A/R and translating it into weeks of sales, you'll have a historical perspective on your cash flow and working capital needs.

 

Tackling Working Capital Funding Challenges with Receivables Financing

 

But what does a company do when traditional borrowing for working capital seems daunting? Increasingly, Canadian firms are turning to factoring or accounts receivable financing. This method might seem complex, but it's quite simple once you comprehend the pricing and day-to-day functioning.

 

  

The Simple Solution -  Invoice Factoring / Financing Accounts Receivables  

 

Choose daily, weekly, or monthly intervals to sell your receivables on the company's balance sheet. When you make a sale, you receive immediate cash, transforming accounts receivable into an ATM for Canadian entrepreneurs and finance managers. Discovering this ultimate cash flow solution can be a game-changer for small businesses and companies of all sizes. But what are the downsides?

 

   

The Two ‘Catches’ of Financing Receivables

   

While accounts receivable financing might seem attractive, there are two 'catches' that businesses need to understand and address.

 

Cost of Financing

The first is the cost compared to a traditional bank loan / unsecured financing, which typically ranges from 9%  per month in Canada and in some cases, 1.15%/mo, referred to as a discount fee. Though this might seem expensive many business owners do not consider the carrying cost of the receivables and the 'opportunity cost' – the potential for higher profits using cash flow from receivable financing.

 

Why Isn’t Every Canadian Business Using Receivable Financing?

 

The reality might surprise you; large Canadian firms often utilize this financing method for funding a company's sales revenue. Their financial strength allows for more flexibility in managing this facility daily, often enabling them to bill and collect their receivables - something rarely found in the Canadian market. 7 Park Avenue Financial's recommended solution is Confidential Receivable Financing, allowing a business to bill and collect its receivables while achieving all of the cash flow benefits of A/R financing.

  

Conclusion  

Seek out the unique 1% solution that allows this flexibility. Your business can secure competitive working capital funding and virtually limitless cash flow growth.

Call 7 Park Avenue Financial,  a trusted,  credible, and experienced Canadian business financing advisor who will ensure you have the best and lowest cost capital funding solution tailored to your business, allowing you to unlock growth solutions and profits.

 

  

 FAQ:   

 

What is the Cash Conversion Cycle?

The Cash Conversion Cycle (CCC) is a critical metric that measures the time it takes for a company to convert its investments in inventory and other resources into cash flows from sales. It encompasses three stages:

1. Days Sales Outstanding (DSO): Time taken to collect payment after a sale.
2. Days Inventory Outstanding (DIO): Time  taken to sell inventory.
3. Days Payable Outstanding (DPO): Time taken to pay suppliers.

The formula for calculating the  company's cash conversion cycle 'CCC ' is:

$\text{CCC}$$<span\; style="font-size:\; 16px;">=</span>\text{<span style="font-size: 16px;">DSO</span>}<span\; style="font-size:\; 16px;">+</span>\text{<span style="font-size: 16px;">DIO</span>}<span\; style="font-size:\; 16px;">-</span>\text{<span style="font-size: 16px;">DPO</span>}$$\text{CCC}=\text{DSO}+\text{DIO}-\text{DPO}$

Keywords related to CCC include working capital management, liquidity, operational efficiency, cash flow management, inventory turnover, and accounts payable/receivable.

 

What is Debt Financing Versus Equity Financing?

 

Debt Financing: This involves borrowing money, typically through loans, bonds, or other debt instruments, to be repaid with interest. It's a way for businesses to raise capital without giving up ownership. Keywords include interest, principal, creditors, leverage, and fixed obligations.

Equity Financing: This entails raising capital by selling shares or ownership in the company. Unlike debt financing, there's no obligation to repay the funds. Instead, shareholders may receive dividends and have a say in the company's operations. Keywords include shareholders, dividends, ownership, dilution, and capital structure.

 

3. What is the Impact of Currency Exchange Rates in A/R Financing?

Currency exchange rates are vital in accounts receivable (A/R) financing, particularly for businesses dealing in multiple currencies. The fluctuation of exchange rates can:

• Affect the value of receivables, leading to currency risk.
• Impact on the cost and availability of A/R financing.
• Create complexities in managing international trade credit.

 

What are Alternative Financing Options for Receivable Financing in Addition to Factoring?

In addition to factoring, alternative financing options for receivable financing include:

• Invoice Discounting: Selling invoices to a third party at a discount but maintaining control over collections.
• Asset-Based Lending: Utilizing assets like receivables and inventory as collateral for a loan.
• Supply Chain Financing: Collaborating with suppliers and financial institutions to optimize working capital across the supply chain.
• Peer-to-Peer (P2P) Lending: Leveraging online lenders and their platforms to match borrowers with individual lenders.

 

 

What is a working capital loan?

 

A working capital loan is a specialized type of loan designed to finance the daily operational expenses of a business. Unlike traditional loans, often used to finance long-term investments or capital expenditures, working capital loans cover short-term needs like payroll, rent, inventory purchases, and other day-to-day expenses.

This type of loan is particularly beneficial for businesses with cyclical or seasonal revenue patterns, where there might be gaps in cash flow. It helps companies maintain smooth operations when expenses or income are high.

There are various types of working capital loans, including:

1. Line of Credit: Offers flexible access to funds up to a specific limit, allowing businesses to draw and repay as needed.
2. Term Loans: Provides a lump sum of capital paid back over a set term with interest.
3. Invoice Financing: Advances funds based on unpaid invoices, enabling businesses to manage cash flow without waiting for customer payments.
4. Trade Credit: Involves obtaining goods from suppliers with a deferred payment agreement.

The primary goal of working capital loans is to ensure liquidity and financial stability in the short term, allowing businesses to continue operating smoothly regardless of fluctuations in revenue or unexpected expenses.

 

What is the difference between a working capital loan and financing receivables?

 

Both working capital loans and receivables financing are essential tools in managing a company's cash flow and liquidity, but they serve different purposes and function in distinct ways. Here's an outline of the key differences:

Working Capital Loan

1. Purpose: Aimed at funding the day-to-day operational expenses of a business, such as payroll, rent, utilities, and inventory. It's a tool to smooth out cash flow fluctuations.
2. Structure: This can be a term loan, line of credit, or other forms of short-term financing. The structure is often flexible, catering to the general working capital needs of the business.
3. Collateral: May or may not require collateral, depending on the lender's requirements and the borrower's creditworthiness. If needed, collateral can include various business assets.
4. Approval & Terms: The lender assesses the overall financial health of the business, including credit history, profitability, and financial stability. The terms can vary widely based on these factors.

Financing Receivables (e.g., Accounts Receivable Factoring or Invoice Discounting)

1. Purpose: Leveraging unpaid invoices or accounts receivable (A/R) to generate immediate cash. It helps bridge the gap between invoicing a customer and receiving payment and avoids the need to borrow money via term debt.
2. Structure: Selling or using the A/R as collateral to get an advance from a financial institution or factoring company. The advance is typically a percentage of the invoice's face value.
3. Collateral: The collateral is the receivables themselves. The lender's security is tied to the quality and collectibility of the financed invoices.
4. Approval & Terms: The lender's focus is often on the creditworthiness of the invoiced customers rather than the company seeking financing. The terms are closely tied to the receivables' value, age, and risk.

While working capital loans provide a more general form of financial support for daily operations, financing receivables is a specialized method tied to leveraging unpaid invoices to improve cash flow. The former takes a broader view of the business's financial health, while the latter is closely related to specific transactions and the creditworthiness of the company's customers.

 

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