What is accounts receivable financing?
AR Finance, or financing, stands for Accounts Receivable Financing. There are times when a business needs access to funds immediately. They cannot take the time to go through the traditional steps of asking for a business loan. The company may have money coming in by way of receivables, but they may not be expecting receipt of this money for thirty, sixty or even ninety days.
A business that has a collection of accounts receivable can use this to obtain the quick cash that they may be in need of. The process for achieving this is relatively simple.
Getting started with AR Finance
It begins by finding a lending institution that offers AR financing. There are several to select from throughout the U.S. It is essential to look at what terms this financial institution is offering as they can differ.
The usual routine for this type of financing is based on the amount of money the company needs, and how many receivables they have coming in to support this amount. Most of the lending companies will loan between 70% to 90% of the value of the receivables.
The lending company will take the receivables and give the agreed upon amount to the company needing the money. This financial institution will then take on the task of collecting the amounts owed on the receivables. Once they do this, they will give the balance owed by the receivables to the company. However, there will be a fee charged for these services.
Some criteria will need to be met, that is put in place by the factoring company that is going to lend on the receivables. They are usually more liberal with their services with larger companies compared to small ones. However, there are now some factoring companies that will do this type of business even with small startup companies. They usually prefer to have current invoices rather than aged ones. They will access how difficult it is going to be for them to collect the receivables before proceeding.
AR Financing Options
Many new companies that are in need of some immediate cash flow look towards their accounts receivables to help them with this. There are opportunities for businesses to use these to generate the money they need, as there are financial institutions that offer factoring services. Within this opportunity are some options.
Traditional Factoring
The method used in this option is that the company funding the money will provide a percentage of the value of the receivables that are being used for the financing. The benefit of this option is that the company receiving the money can determine which invoices they want to use for this financing. They are not required to use all their receivables for this purpose. One of the negative aspects is that the fee for the service is going to be higher, and there may be more restrictions on how much funding is available.
Selective Receivables
Again, one of the benefits here is that the company with the invoices can choose which ones they want to use to get the financing they need. But, the big difference is, they will get the full amount of the value of the invoices as opposed to a percentage. There are still fees applicable to the service, but they are often lower compared to the other options.
Asset Based Lending
A third option is this one, which is basically a business line of credit, where the receivables are committed to the program being offered by the factoring company. The fees are higher than other options, and it usually requires the majority of the receivables to be utilized.
Whichever method a company uses, that is in need of factoring finances, is also going to depend on how they want to account for this in their financial records. It also depends on which option works best for them, based on the value and terms of their receivables.
Popular providers
Accounts Receivable (AR) is the payment a company or corporation gets from its clients who have bought goods and received company’s services on credit. Therefore, AR is the amount of money owed to a company from the debtors. A receivable is a payment that has not been realized. The period given for clients to pay usually ranges from one-month to a couple more. This can, however, change depending on the terms signed by both parties.
Durham Commercial Capital
Durham Commercial Capital is one of the companies that is known to offer businesses with AR financing. Durham commercial capital will help your business expand to untapped markets and increase your clientele. The good news is that you will receive money from your asset in less than a day and get expert advice when looking at a new client’s preparedness to pay. All you need to do is make a payroll, and the team will take care of everything.
SevenOaks Capital Associates
SevenOaks Capital Associates is another great company to trust with instant funding on legitimate invoices. You will get professional help with your collections and get accounts receivable report any minute you want. SevenOaks Capital Associates will ensure that your business has a regular flow of cash and is consistent with growth.
YayPay
YayPay is an account receivable automation solution that your business needs every time you make collections from customers. With YayPay, you will get amazing predict money flow and dates for payments with the help of a machine. The payment speed will also increase up to 34%. The cloud-based AR software merges your current accounting, billing, ERP, and CRM applications to make your work less stressful.
Small and upcoming firms are encouraged to use the accounts receivable mode of financing as it not only helps the company grow but also comes through when the company is struggling with cash flow. It is a win-win situation between the company and the customer at the end of the day, as the company will be sure that money will flow in on time.
Why you should consider AR financing
If you have ever attempted to own a business, you probably know how cash flow can cause migraines. The payments come in slow while the bills roll in fast, not to mention the recurring payroll.
While there are micro-business funding solutions such as credit and business loans, they are not cut out to solve the cash flow issue. They need longer approval time and collateral which make them inaccessible for most businesses.
And that’s where account receivable financing comes in. Think of it as the plan B for your business as it solves all your cash flow challenges and provides you with an opportunity to grow the business.
AR financing, commonly known as factoring, involves selling receivables or open invoices to a finance company. The factoring company assumes the risk and provides the business in question with quick cash. The amount depends on how old the invoice is as well as the quality of the receivable.
The benefits of using AR finance include:
Quick Cash
Waiting for a couple of weeks or even months to receive payment can break your business. However, a factoring service lets you turn credit into cash at a small cost. The AR company monetizes the open invoices and releases the money in as little as 24 hours. That reinforces your credit rating, as you can meet your bills on time.
No Need for Collateral
The traditional financing system requires a business to provide some insurance inform of assets and guarantors before getting a loan. And that locks out many companies from this option. AR financing, on the other hand, requires none of that. The only catch here is to have customers that have a decent credit rating, and that’s it.
No Equity is Given Up
Some mainstream micro-business financers offer cash in exchange for a percentage of equity. That means that you, the founder, can no longer make independent decisions in your business. But factoring is quite different. The AR company takes up the risk of handling your open invoices and gets nothing more than a small interest in the end.
You Get Time to Focus on Growing the Business
It’s no secret that following up on payments is both time-consuming and tedious. So, if you get a chance to liquidate the receivables, you’ll have fewer tasks on your to-do list. That offers you the opportunity to concentrate on the income-generating departments like sales and marketing. And that only means one thing – the company has nowhere else to go but up.
Track Customer Records
We’re living in the information age, where you can analyze a customer’s credit record and decide if they are eligible for more credit or not. Most factoring services have substantial experience in rating customers. And the rating process happens regularly, so you get to know when a customer is going through a rough patch.
Get a Loan Based on the Clients Ability to Pay
This point may work for or against you depending on the kind of clients you are handling. If they are credible people, you get a chance to get a decent amount up front. But in case they have a spotted record, chances are that you will get a fraction of the total receivable amount.
Overall, all business – big or small – needs financing at some point to support inventory, meet the payroll and foot operational expenses. But with the current economic storm going on, companies are left with few options that can save them from hard times. So, educating yourself on the possibility of AR financing may as well be the secret ingredient that will elevate your enterprise to the next point.
Knowing when to avoid AR finance
Entrepreneurs often opt for third-party financing to fund their operations, especially when they are in the start-up phase or when they are going through a period of financial struggle. One common business financing option is account receivable finance, also known as factoring. But, like any financing option, AR finance does come with its share of drawbacks. Here are some of them.
Loss of control
While factoring allows you to safeguard your interest share in the company, you may lose control of certain processes. For instance, the AR finance partner could restrict your ability to get business from a customer due to a poor credit rating or history.
Costs are too high
As the adage goes, nothing is free in life. And as a smart entrepreneur, you probably know that business financing of any kind is never free! While you may want to access to grow your business, it is important to note that opting for AR finance may come at a higher cost than taking a bank loan. Most AR financing partners usually demand 1% to 4% of the receivable as their fee. In addition, they will charge interest on the cash advance, which is often several points above the market rate. This can add up to over 30% per annum.
Too long contracts
Once you have decided that AR finance is for you, you will have to sign a contract with the factoring partner. Unfortunately, you may not have control over the duration of this contract. The contract can have a lifetime of up to 2 to 3 years in most cases, and this is not always a great thing for any business. However, the AR financing market is currently changing, and short-term contracts are becoming increasingly popular.
Your customers are unsuitable
Like any enterprise, you probably have your share of great and bad customers. Thus, if your business has many non-paying clients or clients with poor credit rating, take note that these factors can affect the discount rate you will pay to the AR finance partner. If your clients are unreliable or unable to meet your financier’s standards, you may also receive a lower upfront. In fact, bad clients can even stand between you and this form of financing.
The bottom line
Every enterprise, size notwithstanding, need access to credit to support its operations. And it is not uncommon for a business to need quick cash. AR finance is a funding option that allows businesses to access fast credit and stay afloat. However, before opting for this business funding option, be sure to study its merits and demerits to make an informed decision for your business.
