Accounts Receivable Factoring - A Case Study

You read a lot about various alternative financial products, but which ones really work? Invoice factoring is a great way to acquire working capital for those that companies that carry receivables and can't get the funds they need from the bank. One such company was a boat trailer manufacturing company in the Midwest. They were growing rapidly and exhausted their bank credit line. With pending orders unfilled due to a lack of working capital, I worked with the owner to establish a factoring arrangement. Within two weeks, the company had the funds they needed to produce the orders. Since funding is only limited by the company's pool of receivables, they were able to accelerate their growth beyond their wildest dreams.

Why Use a Broker for an Invoice Factoring Transaction?

When a company has not been able to achieve the financing it needs from a bank, alternative methods like accounts receivable factoring are available. Should you just type in "factoring" in the Google search box and call the first few companies that show up on the list? Just because a factoring company has achieved a high organic ranking on Google doesn't necessarily mean that they will be a good fit for your firm.

By utilizing the services of a competent business finance broker, you can be steered in the right direction. Competition among factoring companies is fierce. Many have specialized niches. One may be more adept at working with trucking companies while another may be more suited for manufacturing. A broker who knows the factoring industry will know which company is most likely to serve your needs. Using a broker will not cost you any more money, as commissions are paid by the factor. On the contrary, you will actually save money and time.

Kent Harlan, CPA
Ozarks Capital Funding, LLC
www.ocflink.com
(417) 849-7394

Why Don't More Companies Factor Their Inivoices?

Although factoring volume has grown every year since 1984 and is a favorite financing tool in several industries. many companies don't take advantage of it. Many people have the misguided belief that factoring fees are in same range that loan sharks charge. There was a time (several decades ago) when factors took advantage of companies in bad financial shape and had nowhere else to turn. Those days are over. With the increase in competition among factoring companies, rates are still higher than bank financing, but affordable. If a company has a reasonably healthy profit margin, invoice factoring should be considered if a bank turn down has occurred.

Factoring can be beneficial for most any industry that carries business to business receivables. Manufacturers, distributors, and service providers are all industries that can free up working capital now rather than wait 30 to 60 days and beyond to get paid by their customers.

Kent Harlan, CPA
www.ocflink.com
(417) 849-7394

Factoring Invoices in a Slowing Economy

When your company is being negatively impacted by a slowing economy, you might consider using accounts receivable factoring as a financial resource. It is important to perform an analysis of your current financial health to see if you're a candidate for factoring. One way to do that is to calculate a Z-score. This analysis was developed in the 1960's by a statistician named Edward Altman. The Z-score is a combination of various financial statement ratios taken from both the balance sheet and income statement. The formula is as follows:

Ratio Weighted Average
1. EBIT/Total Assets 3.3
2. Net Sales/Total Assets .999
3. Equity Mkt. value/Total liabilities .60
4. Working Capital/Total Assets 1.2
5. Retained Earnings/Total Assets 1.4

The model asserts the following:

A Score over 3: reflects a company on solid footing
Between 2.7 and 2.99: The factoring company should exercise caution and require increased monitoring.
Between 1.8 and 2.7: There is a good chance of the company going bankrupt within 2 years.
Less than 1.8: 94% chance that the company will need to file bankruptcy within the next year.

The Z-score is widely used as a barometer of financial health and a predictor of bankruptcy in the short term. Other fundamental methods should be used in conjunction with the Z-score such as financial trend analysis of revenues, expenses, and profits. In addition, there may be internal and external factors that could change the ratios in the future such as new product roll-outs, mergers, and new competitors in the industry.

www.ocflnk.com
phone: (417) 849-7394

Are You a Candidate for Factoring?

Invoice factoring can be a valuable way to move your business forward and provide the working capital you need. You are putting one of your most valuable assets, accounts receivable, to work for you.

Although entering into a factoring arrangement is much simpler and less time-consuming than applying for a bank loan, you still would like to know up front if you're a good fit before the process begins.

Here are some of the questions that need to be answered in the screening process:

• Is your company's profit margin enough to cover the fees? As we've discussed before, factoring is not cheap financing, so it's important to have a decent profit margin to make it worthwhile.
• How much do you invoice each month? If you plan to factor less than $10,000 per month, your choice of funding companies will be limited. You should disclose your level of volume up front before you start the application process.
• Are you sure your receivables aren't currently being used as collatoral? A factoring company will insist upon having a first position on your receivables, so you should determine if your existing lenders haven't filed a UCC on your A/R. Don't be alarmed if the receivables pledged. Banks are often cooperative with factors.
• Do you do business with only one company? Factoring companies may have a concentration issue of you only have one customer. In that scenario, their risk is magnified because if something happens to that customer, they don't have other receivables to fall back on. It will help if the customer is large and stable.
• Does your accounting system generate aged receivable reports? 'This is critical, as factors depend upon accurate and timely aged receivable reports to determine if your company is a viable candidate.

Kent Harlan, CPA
Ozarks Capital Funding, LLC
www.ocflink.com
(417) 849-7394

When you See Low Factoring Fees Advertised, Be Wary

Look at any pay per click ad on Google or other search engines, and you'll likely see something like "factoring rates as low as 1% per month". Sound too good to be true? It probably is. Before you can't wait to submit your invoices to a company that advertises these "incredibly low rates", make sure either you or attorney review the contract very carefully.

First of all, the 1% may mean for the first thirty days only. You'll want to see what the rate will be for days 31-90. Chances are, those teaser rates that got you hooked will escalate dramatically.

There are often other charges buried in the contract you should be wary of:

• per invoice charges
• application fees
• administration charges
• renewal fees

In addition, you should determine exactly when the reserves will be released and ask if the invoices are bulk assigned. When comparing factoring companies, you should analyze all of these charges.

Click here for more information on OCF programs or to request a free quote or call (417) 849-7394.

Invioice Factoring for Long-Term Services

Can invoice factoring be utilized if the service provided spans a long time frame?

The answer is yes, but the way the company bills the client is critical. When you initially set up the agreement with the customer, you should specify the exact work to be performed as it relates to billing. In other words, both parties should agree that an invoice can be generated upon a certain level of performance, or milestone. The factoring company will be able to advance funds based upon that invoice even though the entire job isn't completed.

Contrast this scenario to progress billings, an arrangement in which the customer advances money for the job as a whole. The factor is hesitant to advance funds to the client with progress billings, since the company getting billed may become unhappy along the way and stop making payments. With milestones, on the other hand, that is not a problem.