The scenario: Customers are slow to pay, and unpredictable cash flow is disrupting operations.
The tactic: Sell unpaid accounts receivable to a
factoring company that will trade them for cash.
As the economy slows, so does the typical payment schedule from a company’s
roster of clients. And for many companies — typically small and
mid-sized or privately held firms that don’t sit on vast cash reserves
— that means managing unpredictable cash flow, on top of all the
other business priorities that a recession can trigger.
Through a process called ‘factoring,’ though, companies can outsource the problem, and in many cases use it to their advantage — accounts receivable, after all, are a bankable asset. Through factoring, companies sell their accounts receivable to a third party, which in return pays the company the cash value of what it’s owed. (The third party gets a small percentage of the take for the service.) Factoring rose from being a $127.6 billion business in 2006 to a $135 billion business in 2007, and it is expected to jump significantly this year, according to the New York-based Commercial Finance Association.
Retailers, transportation and logistics companies, trucking
firms, and health care/medical businesses are among the biggest practitioners of
factoring, since they typically pay large sums or provide expensive services,
then wait long periods of time for reimbursement. Trucking companies, for
instance, often must fund truckers’ gas and other travel
expenses as they drive loads of goods from coast to coast, yet the companies may
not get reimbursed swiftly once the load is delivered.
Factoring is also available to companies with a poor or
recent credit history. Factoring firms look not at your credit quality,
but at the credit quality of your paying clients, which means fledgling
businesses can use it as an alternative means to keep business afloat. David
Theobald, CEO of Stat Staff
Professionals in Clifton Park, New York, has used factoring for six years. His
company provides contract personnel to medical facilities, which then reimburse
Stat Staff. But in order to make payroll among his 100 employees, Theobald says
he’s turned to a factoring firm for help. “Our business is
service-based. It’s difficult to fund payroll when you’re
waiting 30, 60, or 90 days to get paid,” he says. Theobald says that
Anchor Funding is currently handling $600,000 worth of outstanding receivables.
Without factoring, he says, he’d have to have at least $1 million in
cash on hand or a similar-sized revolving credit line to make payroll. “Using
factoring gives me more opportunities to concentrate on growing,” he
says.
Caution: Factoring firms can charge higher interest rates than
conventional lender loans. If clients don’t pay, you are liable for
the debt you sold — a risk in the current economy, when many
companies are staggering payments. If clients pay extremely late, you pay more
interest on the money advanced. In addition, larger public companies may run
into accounting complexities if they use factoring.
