Vince DiCecco

At my weekly networking group, I had the good fortune to attend a very informative presentation given by Al Celentano, Managing Partner of Liquid Capital of Northwest Atlanta. He began the session with a statement that got me thinking. He said, “At one point or another, every business is confronted with cash flow challenges. When the traditional means of funding—such as, bank and/or SBA loans, angel investors, borrowing from family and friends, utilizing personal funds (like home equity loans, lines of credit and retirement accounts)—seem to dry up, the process of acquiring extended financing can become a lengthy, arduous and sometimes impossible challenge.”

It is true that when a business has exhausted all other means and sources, and traditional lending is not a viable option because the company’s credit rating, financial health and well-being, length of time in business, and collateral and revenue requirements don’t meet with a bank’s standards, then alternative solutions may be the answer. Many of these products are tailored specifically to certain businesses and industries.

What are some examples of alternative financing products and solutions, you ask? One of the most popular options is known as accounts receivable (A/R) factoring and invoice discounting—in which Liquid Capital Corporation specializes and is known—but, there are several other products that may better fit the immediate needs of a business, such as purchase order financing, supply chain financing, letters of credit, and merchant cash advances. Whether your company is in the process of restructuring, launching a new product line, expanding, or simply needs cash to manage seasonal demand or take on larger, slow-paying clients, alternative business and commercial financing is certainly worth knowing about and considering.

What exactly is factoring?

One reason many new businesses fail is because they are undercapitalized and thus cannot sustain their growth. Factoring provides a reliable and flexible way to optimize cash flow and provide the capital a business needs as it grows. Factoring is a fast, reliable solution that provides immediate financing through the sale of creditworthy business-to-business (B2B) invoices. Factoring isn’t lending, in the purest sense, nor is it a substitute for poor collection practices. Rather, it’s the purchase of a company’s accounts receivable.

Celentano offered the following explanation: “Here’s how it works. Say a business has $50,000 in accounts receivable because it has a lot of B2B and/or business-to-government clients. During the time the receivables are outstanding, the company still has bills to pay and projects to fund. Factoring allows the company to convert their receivables into cash almost immediately—typically 75 to 85 percent of the outstanding invoices now and the balance—less Liquid Capital’s fee—when the invoice is paid.”

One of the many advantages of factoring is that a company can be approved, set up, and funded much quicker than a bank loan. Factoring companies will also verify a client’s invoices and follow up with their customers, if they do not pay on time. The factoring company handles all the credit checks, collects the accounts receivable and ledgers the receivables, so the client is able to focus on running their business. While this might seem like a basic business function, it typically results in more timely payments and will free up a company’s staff from performing these tasks.

Factoring is ideal for companies with a high amount of A/R, but not much cash on hand. Companies with an opportunity to expand or take on new business, but need working capital or financing in order to fund their growth, are also great candidates for factoring. Factoring is popular in the manufacturing industry and with wholesalers because customers often do not pay invoices until they are outstanding for 60 days or longer.

Because of factoring’s flexible underwriting, it allows a company to strengthen its balance sheet—because it doesn’t take on additional debt—while maintaining control over funding its operations and growth. And, since factoring contracts are short-term, the client can elect to stop factoring their receivables whenever they choose. Features like these make factoring a less stressful financing option than others.

Celentano went on to say, “Factoring has been around for centuries, but is not as well known or utilized in North America as in other markets. Given the advantages of factoring, it’s only a matter of time before it becomes more widespread in North America.”

What else you got?

Let’s take a closer look at the other alternative financing options around, shall we? Purchase order financing involves one company paying the supplier of another company, for goods that have been procured to fulfill a job for a customer. It is a funding option for businesses that need cash to fill both single and multiple customer orders. There may be times where there is simply not enough money available to cover the costs of procuring pre-sold goods, raw materials, equipment parts, and production supplies. As a result, a company may not be able to afford the material goods necessary to meet the client’s particular order. Having to turn the order down would obviously mean loss of revenue and perhaps even a tarnished reputation.

If word gets around that a company is turning away business because they can’t afford to complete jobs, customer trust can come into question. Therefore, to avoid such scenarios, it is imperative that businesses find the money that they need. For some companies, purchase order financing is a great way to go.

Purchase order financing is an advance and may not be for the entire amount of the supplies, but it will cover a large portion of it. In some cases, companies can qualify for 100 percent financing. The purchase order finance company will then collect the invoice from the end customer. The purchase order finance company makes their money by charging the company in need of funds various fees. These fees are taken out of the collected invoice. The remaining amount is returned to the company.

Supply chain financing (SCF)—sometimes referred to as “reverse factoring”—is based on the practice of selling invoices at a discount in exchange for advance cash payments from a third party. Supply chain financing is designed to create stability in the supply chain, producing working capital efficiencies for buyers and their suppliers, and protecting against commercial risks within a buyer's supply chain. This solution aims to improve the financial efficiency of the supply chain, resulting in both suppliers and buyers enjoying a substantial reduction in working capital through this program.

Supply chain financing can provide credit and/or liquidity to any link in the supply chain. A SCF client’s suppliers and vendors are paid by the financing company. Suppliers/vendors can be paid soon as an invoice is approved—instead of waiting 30, 45 or 60 days and usually the invoice is granted a discount for quick payment. The payment is driven by the supplier—they choose when and how much they are paid. A typical candidate for SCF is one with lots of suppliers who offer terms and discounts, having more than $10 million in revenues and good credit.

Letters of Credit (L/C) are typically used when a foreign supplier wants to ensure payment will be received and/or when the purchaser needs a guarantee that goods coming in from overseas will be shipped. L/Cs are irrevocable commitments from a lender to make payment to a third party as long as L/C conditions are met—in other words, they can’t be canceled or altered without mutual consent of all parties. Letters of credit usually require an independent inspection upon delivery, in order to certify the product(s) meet specifications spelled out in the L/C. The lender provides the interim funding and gets paid when the client sells the goods or factors the invoices for the client.

Merchant Cash Advances (MCA) are usually the last resort for small- to medium-sized, business-to-consumer type companies—that is, most every other option has been exhausted and the client needs a significant amount of cash (e.g., $5,000 to $500,000 or more). MCAs are unsecured working capital advances that have very flexible underwriting—in the case of the client having low credit scores, a short time in business, minimal assets/collateral and/or low sales volume. Understand that the interest rate MCA lenders charge is substantial—50 percent is not unusual. I know that sounds outrageously high, but the terms of repayment for the advance could be as short as three months. This is a viable option for a business that only operates seasonally or during a particularly short (e.g., holiday) period. Repayment of the loan is made directly from daily credit card processing or bank deposits.

Final thoughts

The intent of this column is to enlighten and make business owners and entrepreneurs aware of alternative financing options. It is not an endorsement of one product or company over another. If, or when, you ever entertain engaging an A/R factoring company or other alternative financing firm, consider the following questions:

• What is the size of the network the company has? Are they local or do they have a presence regionally or nationwide?
• Will they customize the funding solution to suit your specific needs?
• Do they disclose and explain all of their fees and contract particulars?
• Do they provide real-time 24-hour support and reporting services?

Good luck.