Financing Receivables – What You Need to Know?

New to financing receivables? Just because your business is successful, it doesn’t necessarily mean that you have stable, reliable cash flow. You can be completely in the black and still be unable to make payroll, to pay utilities, or to grow your business. Most of your company’s capital is locked up in unpaid invoices, and customers often take the full 30, 60 or 90 days to pay those invoices.

During the interim, you could miss out on growth opportunities that will never happen again, or be forced to temporarily lay off employees. It’s not a beneficial position, but there’s a means out of that hole. Financing receivables can help you unlock capital, boost cash flow, and build a more stable business.

Not sure that this entails or how to make it work? We’ll explore those topics and more below.

What’s Involved in Financing Receivables?

When you think of assets your business owns, what comes to mind first? Equipment that you’ve invested in? Perhaps you think of the materials and supplies you’ve bought. Maybe it’s the computer system you just installed, or the company vehicle you drive.

Financing ReceivablesYes, all of those are assets, but they’re only of so much value, and parting with them could create additional hardships. However, there are other assets that you can sell immediately and build cash flow right away.

We’re talking about your unpaid invoices. Those are technically assets. Your accounts receivable are probably the most valuable assets you own, actually.

Financing receivables involves selling one or more of those assets to a factoring company. In exchange, you’ll get a cash advance based on the amount of the invoice sold. That cash can be used for anything your business needs, whether that’s keeping the power on, keeping your employees paid, or taking on new customer or clients to build revenue.

Sounds pretty beneficial, doesn’t it? It is, but there’s a good bit you’ll need to know before you jump into the process. Let’s start with how the process works, and move on from there.

How Does Financing Receivables Work?

So far, we’ve discussed the fact that financing receivables involves selling your invoices to a factoring company. While that’s it in a nutshell, there’s a lot more that you should know before deciding that this is the best path for you.

Which Invoices Should You Sell?

One of the most important considerations here is that not all invoices are worth selling. Most factoring companies have a minimum, so if you have an invoice that doesn’t meet that amount, then you won’t be able to sell it. Depending on the company in question, you might be able to bundle multiple invoices together in a sale to meet the minimum, though.

A word also needs to be said about the creditworthiness of your client or customer. With financing receivables, the focus of the factoring company is not on your business, but on your clients. If they have a history of not making their payments on time, or have missed payments completely, then the factoring company will most likely not take a chance on them.

There’s also the fact that with recourse factoring, which is the most common type in Canada, you’re on the hook if your customer defaults. That means you’ll be required to repay the advance to the factoring company if your client doesn’t pay the invoice. Nonrecourse factoring, which is less common, does not require that you be liable for your client’s nonpayment, but it is usually more expensive.

So, when it comes to which invoices you should sell when financing receivables, you’ll need to ensure that:

  1. You meet the minimum requirement
  2. You are selling an invoice from a client you know will pay

How Much Can You See in an Advance?

A pressing question to answer when considering financing receivables is how much you’ll see in the form of an advance. After all, this is the amount you’ll have for immediate use, and you’ll need to ensure that it meets your needs. Factoring companies usually advance between 70% and 90% of the invoice total, but some will offer up to 98%.

Obviously, that’s a pretty wide range, so you’ll need to make sure that the factoring company you partner with offers the right percentage for your needs.

What About the Rest of the Invoice Total?

While you’ll see somewhere between 70% and 90% in an advance, the factoring company will hold the remainder of the amount in reserve. Once your client pays the invoice, the factoring company will give you the rest of the invoice amount, after subtracting the factoring fee. This fee is essentially the cost of doing business, and is usually between 1% and 5% of the invoice total.

In no case will you receive 100% of the invoice total, so if your profit margins are very tight, you’ll need to carefully consider whether factoring is right for your needs. In some instances, you might be better served by simply waiting for your customer to pay, or by obtaining a business line of credit or a conventional loan. However, understand that financing receivables does not carry with it the same drawbacks that conventional lending does.

What Are the Terms of This Type of Financing?

This is where things get a little tricky. The single largest problem is that there are quite a few factoring companies in Canada, and their requirements, terms and stipulations can vary a great deal. However, you’ll find some of the most common considerations below:

Contract Duration: Many factoring companies that offer financing receivables do require that you sign a long-term contract. These are often for one to two years in duration, and will require that you sell all invoices from that particular client to the factoring company.

In other instances, you’re required by the contract to sell all of your invoices to the factoring company. In this situation, the factoring firm essentially becomes your billing and collections department. This is more common in specific industries, such as the trucking industry, than in others.

Spot Factoring: Spot factoring is nothing more than the ability to pick and choose which invoices you sell to the factoring company, without having to sign a long-term contract. It’s not offered by all companies dealing with financing receivables, but it is becoming more and more common today.

This can offer you a great deal of flexibility and freedom, but it sometimes does require higher minimum amounts, so you’ll either need a high-value invoice, or to bundle multiple invoices together into a single sale.

Additional Fees: While you’ll pay a factoring fee with every company out there, some firms charge additional fees. These can eat into the money you realise from the sale, reducing your ability to stabilise your company and enjoy positive cash flow.

Some of the most common additional fees include account management or maintenance fees. Other fees might be hidden in the fine print of your contract, so make sure to read it very carefully.

How Does Financing Receivables Compare to Conventional Lending?

On the surface, financing receivables might sound like another type of conventional lending, but it’s not. It’s very different and does not come with the drawbacks that you’ll find when dealing with banks and other lenders.

One of the major differences between factoring and bank loans or lines of credit is that financing receivables does not require taking on additional debt. That’s good news for you, as chances are good you have more than enough debt as it is. Instead, you’re selling an asset to gain an infusion of liquid capital. There’s no debt, no loan payment, and no credit check. In fact, the entire process is based not on your company’s credit history, but on that of your clients.

Another major difference between conventional lending and financing receivables is that you’ll be able to receive your money very quickly. With a bank loan, you might be forced to wait up to two months for the loan to be finalised. In that case, you’d be better off just waiting for your client to pay the invoice. With factoring, you can usually have your money in hand in just 24 to 48 hours, although some factoring companies do require a five-day waiting period for new clients.

As you can see, factoring companies can vary greatly in their terms, in the advance they’re willing to provide and in other crucial factors. It pays to shop around and compare your options, but how do you judge whether one company is better than another? We’ll discuss this below.

How to Find the Right Factoring Company

The right factoring company can help you find stability and growth. The wrong factoring company can increase instability and lock you into a contract that does you little good. Choosing the right partner is vital, and it requires that you consider a number of important factors.

History: How long has the factoring company been in business? While there’s nothing inherently wrong with start-ups, factoring firms that have years of experience under their belt are definitely doing something right.

Factoring Types: As mentioned, there are several different types of factoring out there, and they’re not all the same. Ideally, you’ll work with a factoring company that can offer spot factoring, as well as both recourse and nonrecourse factoring under a single roof. This provides you with the ability to change things to suit your needs as they evolve.

Scalable: One of the most important advantages of financing receivables in comparison to conventional lending is the scalability. You can factor a single invoice when you need a little cash, and then adjust the volume up or down as your needs change. However, that does require that you work with a factoring company that allows changes at your preferred speed, rather than locking you into a years-long contract that cannot be easily changed.

Additional Services Available: While not all factoring companies do, many offer additional services. These may be complementary and offered to all clients, or they may be available only at an additional charge. In the case of the latter, make sure that the service actually offers enough value to justify the additional cost. Otherwise, you’re best off not using those services. Some examples of additional services include:

  • Customer credit checking
  • Invoice processing
  • Financial reporting
  • Billing and collections

Customer Treatment: When you work with a factoring company, they will ultimately collect the money that your clients owe. While they are not collection agencies per se, they can act in that capacity to an extent. In short, they will have contact with your clients. You need to dig into their reputation and history to determine exactly how they interact with your customers, what tactics they use to encourage speedy invoice payment and more. The wrong company could cost you a long-term client.

Fees and Charges: We’ve touched on this previously, but it bears mentioning again. Look for a factoring company that offers a high initial advance and does not charge hidden fees or assess so many additional fees that you cannot benefit from the advance. This will require a detailed comparison of the contracts from multiple factoring companies, but it’s crucial to do so.

Comparing your options can be incredibly time consuming, and it can be difficult if you have little or no experience in financing receivables. There’s help available.

We Help You Find Stability

When it comes time to find the right factoring company for financing receivables, we can help. We have years of experience and expertise in connecting businesses in different industries throughout Canada with the right factoring company for their needs. We can provide you with a free consultation with a factoring specialist to get things started. We invite you to take advantage of that offer today. Find out how simple it can be to get the cash flow and liquidity you need to create a stable, thriving business.