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ACCOUNTS RECEIVABLE FINANCING/ ACCOUNTS RECEIVABLE FACTORING
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Financing & Cash flow are the biggest issues facing business today
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South Sheridan Executive Centre
2910 South Sheridan Way
Oakville, Ontario
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UNLOCK THE HIDDEN POTENTIAL OF CASH FLOW IN YOUR BUSINESS VIA THE BENEFITS OF RECEIVABLE FINANCING
One of the mysteries of Business financing in Canada would appear to be the cost of factoring receivables from an Accounts Receivable Finance Company.
Should this issue be as mysterious as the search for UFOs or Bigfoot? We don’t think so, so let’s explain the role of third-party factoring companies that finance accounts receivables. Is factoring receivables a good idea - we'll let you decide!
WHAT IS FACTORING? HOW DO FACTORING COMPANIES WORK?
Factoring receivables is a financing solution that allows companies to ' sell' receivables as they generate invoices - with the key benefit of receiving cash immediately without having to wait for payment from the client - Factoring companies receive a fee for advancing payment - The factoring company will typically advance approx 90% of the invoice value - the company receives the remaining 10%, less a ' factoring fee ' when the client pays the invoice.
This method of financing works effectively as it allows a business to constantly remain cash flow positive and maintain cash reserves to fund day-to-day operations.
Most business owners and financial managers who consider this method of financing their sales know the fundamentals- the fact that factoring is simply entering into an arrangement with an account receivable finance firm that allows you to monetize or cash flow sales, as you make them. Simple enough, right?
Only a tiny handful of issues come into play when you are financing your firm in this manner. The trick, though, is your management... and understanding of them! That's where you quickly become a winner or a loser, and we're all for winning. And all of that should not, we repeat, should not be a mystery to you or your firm.
SOME KEY ISSUES TO UNDERSTAND ABOUT ACCOUNTS RECEIVABLE FACTORING
So those issues? They are as follows - you need to negotiate and understand the concept of the ' advance rate, 'which is simply the percentage of funds you advanced when you generate sales invoices. Typically in Canada, that should be in the 90% range... your financing is definitely costing more if you are not getting a solid advance rate.
In general, the quality of your customer base determines that advance rate, but quite frankly, some receivable finance companies have a policy or practice of lowering advances to you to increase their profits. So watch out for that one!
RECOURSE OR NON-RECOURSE INVOICE FACTORING?
The issue around recourse or non-recourse financing of receivables is the transfer of risk - With recourse factoring solutions, which is usually the most common financing method the company maintains credit and collection and bad debt risk - Non-recourse factoring solutions transfer the bad debt and collection risk to the factoring company.
Understandably non-recourse factoring is more costly from a financing charge perspective. The additional fee charges in non-recourse a/r financing compensates the factoring firm for the additional credit risk in carrying trade receivables and assuming all risk.
In general, most factoring in Canada is done on a 'non-recourse factoring ' basis, which means you are responsible for covering any bad debts. You were anyway, so the only way to avoid this is by getting a facility in place, including credit insurance. Naturally, this is a bit more expensive, but we are always pleasantly surprised at the generally low cost of A/R insurance to protect from bad debt. That might be something you choose to explore with a financing company.
WHY DOES YOUR COMPANY HAVE A CASH FLOW PROBLEM
Business owners are often challenged to understand why cash flow problems exist in their business - Simplistically cash inflows aren't enough to meet the needs of cash outflows around current asset obligations such as accounts payable. It is also somewhat of a business irony that even profitable and growing companies experienced a cash flow crunch - The primary reason for that is that additional capital is needed to maintain a higher investment in accounts receivables
Some key indicators and warning signs around potential upcoming cash flow problems include:
Seasonality in your industry
Slow invoicing procedures and reduced focus on days dales outstanding performance - Asset turnover is key in good business practices around credit and collection controls - This also can lead to higher bad debt experience
High inventory levels and reduced inventory turns
Inability to access traditional bank loan financing for business lines of credit
Poor focus on cash flow projections and financial planning in the business
Higher fixed cost and lower gross margins
SOLUTIONS TO YOUR CASH FLOW CHALLENGE
Business credit lines from traditional financing via banks, etc provide significant financial flexibility - Other financing solutions are short-term working capital loans and business credit cards. Asset-based lenders in Canada provide non-bank revolving lines of credit facilities that margin, in one facility, accounts receivable, inventory, and fixed assets.
Invoice factoring is used by thousands of businesses in Canada as an alternative to an overdraft facility.
SOLID A/R TURNOVER WILL HELP LOWER THE COST OF FINANCING RECEIVABLES AND GENERATE CASH FLOW
Opportunity cost is a concept that is always ignored by most businesses that are entering into this type of finance. Why? Simply because there is not direct cost associated with it. But boy, is it important for you to understand.
FACTORING ACCOUNTS RECEIVABLE EXAMPLE :
If a business factors a $10,000 receivable at a factoring fee of 1% the total financing cost for a 30-day period would be $ 100.00 - If the client took 2 months to pay the financing cost would be $200.00
Offsetting factoring costs can easily be achieved by many clients who use a factoring facility - Part of the solution is your ability to maximize the opportunity cost of having immediate cash flow into your business as you generate sales - Which allows the business to re-invest that cash and create additional revenues and profits - The ability to constantly turn cash into additional profits is a key benefit of a/r financing when used effectively.
At the same time, businesses can take advantage of early payment discounts offered by their own suppliers to achieve significant savings, in some cases reducing financing costs entirely.
YOUR SECRET WEAPON FOR BUSINESS SUCCESS
That's because your ability to monetize sales over and over again, generating cash on your sale immediately, leads to higher profits and better asset turnover, both key concepts that should be considered in your overall cost of finance. Until your invoice is paid, you are financing the cost of carrying a/r!
There are usually some modest admin expenses when it comes to entering into this type of facility. These are nominal and should be understood, but hopefully should not be unreasonable enough to sway your decision to embrace factoring in Canada. But, as we said, make sure you know some of those admin fees.
WHY CARRYING RECEIVABLES IS EXPENSIVE
Don't also forget that you don't finance your accounts receivable via factoring that you aren't bearing a high cost already. That's because whether you are self-financing or, in fact, have a bank facility; you are carrying your clients for 30, 60... even 90 days these days, forcing you to absorb the major cost of financing your A/R.
Factoring fees from a factoring company tend to be in the 1.5-2% range based on some different factors such as invoice value, for example. And it is critical to understand this is a factoring fee and not a discount rate per invoice. That is all set out in your initial factoring agreement.
KEY WAYS TO LOWER THE COST OF FINANCING RECEIVABLES
Who controls one of the major factors inherent in receivable finance? You do! That’s because, for example, if you are collecting your money in 30 days, as your terms state, the cost of financing a $100,000.00 invoice is 1500.00 if you have a medium-sized facility in place. The invoice factoring rate of 1.5% reduces your margin but provides immediate cash!
That seems quite reasonable to us, given that factoring/invoice financing generates all that cash immediately.
Offset your financing cost by taking a supplier discount with your newfound cash, negotiating better pricing for goods, or simply selling more by reinvesting in new sales and larger contracts. The average invoice amount and the volume of your invoices are factors taken into consideration when setting up your facility via factoring services.
KEY TAKEAWAYS IN SOLVING THE CASH FLOW CRUNCH
Focus on the ongoing review of your financial performance and the potential for business improvements
Maintain ongoing cash flow forecasts and projections around revenue growth and cash inflows with periodic updates
Cash flow can be increased by your ability to negotiate more favourable terms with suppliers/vendors - This reduces cash outflows when more favourable trade credit terms can be negotiated with key suppliers with which you have favourable relations
Invoice promptly and maintain constant updates on the overall creditworthiness of your client base - this can be achieved with the use of third-party credit reports, verification of trade references, etc,
Review business assets - in some cases assets can be refinanced under a sale-leaseback and new assets in the business should be financed with long-term financing solutions such as equipment leasing
Any industry that sells on trade credit terms is eligible for factoring faciltiies - Certain industries are the major users of this method of cash flow financing, including e-commerce businesses, trucking, manufacturing, distribution, firms selling to government , as well as staffing and employent agencies to name a few - Startups also can qualify for financng when they typically cannot access bank loans.
CONCLUSION
So, the cost of factoring in Canada for a small business? Is there a mystery to it? Because of the way many present it, there sure is .. but there shouldn’t be. Speak to 7 Park Avenue Financial, a trusted, credible and experienced Canadian business financing advisor who can assist you with a receivable finance company solution that cash flows working capital accounts and ... that works!
FAQ FREQUENTLY ASKED QUESTIONS PEOPLE ALSO ASK MORE INFORMATION
How much does it cost to factor receivables?
Accounts receivable factoring cost is calculated as a fee, versus an interest rate . Accounts receivable factoring companies charge invoice factoring fees - These invoice factoring costs might include hidden fees so invoice factoring rates on outstanding invoices should be clearly outlined by the accounts receivable factoring company .
Companies that have an accounts receivable base of unpaid invoices from clients that are generally creditworthy will have lower invoice factoring rates. Receivable factoring cost is also based on the time it takes for the customer to pay the invoice - faster collections translate into lower financing costs. Companies financing receivables should investigate the advantages and disadvantages of factoring recievables . Accounting for factoring receivables is a simple process and many factoring receivable companies have invested in online software reporting solutions.
How do you calculate invoice factoring?
The cost of factoring formula is calculated by multiplying the factoring rate times the amount of the invoice financed - Rates in Canada range in the 8% per annum range up to a cost of 1.5% per month - Rates are calculated on facility size, amount of invoices , credit quality, and type of factoring based on recourse or non-recourse.
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