Consider Purchase Orders And Invoices As Collateral For Financing
When a company has delivered goods and/or services to another company or the government
, it is a stand alone as well as accumulative as an asset. Often a company will overlook the fact that accounts receivable are assets. Accounts receivable can a collateral source for backing financing provided by a factor.
The accounts receivable only are encumbered by a factor. Other company assets and equipment are not used as collateral. A company should look at factoring as a way of having a line of credit that improves rather than adversely effects the balance sheet. The balance sheet is not adversely effected by factoring. It is entered on the balance as cash inasmuch as it is the sale of an asset to a factor. It is a way of improving a balance sheet by converting accounts receivable into immediate cash.
When an invoice has been submitted, the factor advances eighty percent (more or less depending on the type of industry) to the business within twenty-four to thirty-six hours. Once the invoice has been paid by the client, the twenty percent reserve is paid minus a discount fee.
It is similar to a company accepting credit cards wherein a credit card company advances the face amount of the invoice minus a discount fee. The two main differences are that the amount paid by credit card companies is paid in one installment whereas the amount paid by a factor is in two installments. Furthermore, a company can accept credit cards from consumers as well as business. But factoring is done only on business to business or business to government invoices.
Small or medium size companies often have to wait more than thirty days to receive money for goods and/or services that have been provided. For various reasons, the reality is that businesses and/or the government take an average of almost sixty days to pay their invoices. In recent years, the average was about fifty-four days. More recently when there was a downturn in the economy, the average went from fifty-four to fifty-nine days. Larger companies have a reputation for using their clout to extend the thirty-day cycle because they know their supplier is willing to tolerate late payments in order to retain their business relationship and orders.
Smaller companies have difficulty filling new orders when their cash is held captive in aging accounts receivable. There are times when companies have to turn down orders due to a lack of cash flow. A prime candidate for factoring is a company trying to expand. Expansion is possible only if the company is able to find some kind of funding to fill additional and larger orders.
If a company provides products, it is possible to factor purchase orders. The manufacturing and textile industries have found that factoring purchase orders has often been the only way they could grow their businesses. Many other industries could be the beneficiaries of factoring.
Even if a company doesn't have the most favorable credit, it is still possible to factor invoices if the clients of a business have good credit. Thus, a factor looks more closely at the credit of clients rather than the company that is the beneficiary of factoring.
For most companies, factoring should be a temporary way of acquiring needed cash until the company is able to qualify for more conventional funding. Conventional loans usually are less expensive than factoring. However, business people who know the importance of the time value of money realize the importance of maintaining a positive cash flow in order for the company to be successful.
It has been a transitional and time sensitive way for some Fortune-500 companies to finance their cash flow. Conventional loans are possible once a company has had a chance to expand.
It is a simple process for a company to apply for factoring. Most factors can give an answer within a couple of days if a company submits a current aging accounts receivable report and an accounts payable report. Other documents are needed in order to complete the process after the underwriters have determined the viability of the company and whether invoices and/or purchase orders can be factored. The factor makes a proposal including a discount rate. Then the company submits additional paper work. Funding can actually start in about ten days from the time the factor has received necessary documents.
Outstanding invoices can be included in the initial funding. Thereafter, advances are made only on new invoices. It is possible but a little more difficult to factor purchase orders. Underwriters have to be convinced that the company is capable and viable of filling the requirements of purchase orders.
by: Russell Wardle
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