Securing working capital can be a challenge for any size business, especially if the business is new or doesn’t have the cash or credit history to support a traditional bank loan or line of credit.
Receivable factoring companies, or “factors,” can offer alternative solutions, providing financing based on a business’ accounts receivable. Many times, a factor can finance a company typically turned down by a traditional lender; therefore, businesses can find the cash flow needed to support growth, while having a not-so-perfect background.
Here’s an example of how a receivable factoring company can provide working capital for a business in which a traditional bank has said “no”:
Company A is a security guard service, who provides security guards for shopping malls and large retail centers in the Charlotte, NC metro area.
Company B is a nationwide, publicly-traded, shopping mall management group.
Company B contracts Company A to provide security at their malls and retail centers in Charlotte. Company A sends an invoice to Company B at the end of every week, which Company B pays in approximately 30-45 days, per the contract.
This payment schedule allows Company A to maintain personnel needs (ie transportation, equipment, etc) and meet payroll expenses every two weeks for its employees.
Company B is satisfied with Company A’s performance, and offers Company A the opportunity to expand security services out of just the Charlotte area, and into other areas of NC.
Company A would benefit greatly from the expanded contract and corresponding sales. But, Company A does not have the capital needed to hire, train, equip, and meet payroll for the increased personnel.
Company A approaches their bank for a business loan. At a little over $2M in annual sales, Company A is a solid provider of security guard services. However, Company A has only been in business since 2011, and the 100% owner/personal guarantor went through a nasty divorce in 2007, which forced him into bankruptcy and ruined his personal credit.
Bank says “no.”
Company A approaches a receivable factoring company for the requested capital. Factor will first acknowledge the strength of Company B and request to see Company A’s AR Aging report. Confirming that Company B is paying on time, per the contract, every 30-45 days, factor should agree to put Company A through their underwriting process.
Other than the owner’s obviously divorce-laden credit history, Company A is fairly solid credit-wise. The owner has no criminal history and the company has no past issues with the IRS.
Once approved, factor would then offer Company A the opportunity to sell Company B’s invoices to the factor at a discount. A receivable factoring company will typically pay anywhere from 70-90% of the total invoice amount upfront, and it will then collect on the invoice on behalf of Company A.
Once the invoice is collected, the factor will then provide a “rebate” to Company A, which is the remainder of the initial invoice amount minus the factor’s fee. The fee will typically be anywhere from 2% and up, depending on how long it took to collect on the invoice.
By selling Company B’s invoices to a receivable factoring company, Company A is now receiving invoice payments the day it produces an invoice, rather than waiting 30-45 days for payment.
By shortening, or even eliminating, the time waiting for payment, Company A is able to use those funds as working capital to hire, train, equip, and meet payroll for the increased personnel needed to expand business outside of Charlotte.
Company A can now take on more work for Company B, and can use that working capital advantage to win new contracts for future Company C, D, and E.
Receivable factoring companies provide these working capital solutions for businesses of all shapes and sizes, and are certainly worth a discussion for any business that has heard the word “no” elsewhere.