"Help with factoring is one of the common questions family business owners ask about when talking about financial strategies for their family business," according to top family business expert
Schwerzler has been studying and advising family business entrepreneurs for more than 40 years and he is the founder of the
Family Business Institute.
Definition of Factoring
Simply put, factoring is where a business sells their receivables at a discount for immediate cash flow.
In many cases, factoring can provide the solution that helps a business owner get through tough times or through times of rapid growth and expansion. In times of a weak or declining economy and customers are slowing the payment process, factoring can be a smart solution.
How Factoring Works
An order comes in from a customer and the product is produced. The business producing and selling the product has materials and labor invested in that product and will recover those costs, plus a profit, when the customer pays the invoice for the product.
But often the terms for payment of the product are governed by a particular industry. It may vary anywhere from a few days to 30, 60 or even 90 days.
As a family business owner, you may not be able to afford to wait 30, 60 or 90 days to get paid for your invoices. Getting help with factoring will improve cash flow. A family business owner may get financial help from a traditional bank – or consider using factoring as an alternative source of funding.
What a family business owner can expect in a factoring relationship is to be able to sell your invoices and receive an advance of 75%-95% of the value of the invoice within 24 hours into your account.
After your customer pays the invoice 30, 60 or 90 days later, you will receive the balance of the invoice minus the factoring fee.
There are multiple ways the factors fee can be calculated, and this is all negotiated up front when the relationship is established. They can charge a daily rate for days outstanding, a 10 or 15 day rate, a flat fixed fee as well as numerous other options. Getting finance help with factoring can make good sense. If you need help with factoring, use the Ask The Expert form at the bottom of this page.
Factoring can be an attractive source of funding because it does not have the same constraints imposed by the traditional asset-based lending used by banks. For example, factoring companies look for quality receivables, not a strong balance sheet or past performance of your business – the credit history of the customer is more important. To reiterate, when getting help with factoring, the factoring company is interested in the quality of the receivable, not the financial history of the company that owns the receivable.
Another very important attractive aspect when getting help with factoring is that fees are based on when the receivables are funded, not when they are created. In other words, if a customer wants to hold their receivables in-house and then send them over to a factor when they need them to be funded, the customer can control their fees due to the factor.
In most cases the factor will allow the customer to choose which accounts are factored. Some factors can also do somewhat of a mixture of ABL and factoring where they can charge a flat fee on some accounts and a 15 or 30 day plan on others. This gives family business owners a great deal of flexibility in financing their business.
Because factoring is a less complicated financial transaction, it requires significantly less time from the family business owner. Getting help with factoring allows business owners to concentrate on what they do best - increasing sales and production needed to grow their business.
Getting Help With Factoring - The Benefits of Factoring
Obtain a continuous and immediate source of working capital and cash-flow
Expand your business / Increase sales / Fill more orders
Eliminate the risk of credit losses
Factors provide a professional and courteous credit checking and collection payment organization for your business
Factoring provides a flexible funding program that increases as you increase your sales
Pay suppliers timely / Take cash discounts / Increase credit limits with suppliers
Have funds for payroll, taxes and capital to buy equipment or inventory on demand
Extend credit to customers on large orders without having them pay COD
No long-term contracts
Reduces overhead - Helps businesses downsize and achieve greater operational efficiency
Off balance sheet financing
Examples of Family Businesses Getting Help with Factoring
A second generation family business, an apparel manufacturer of private label children’s wear, needed working capital to expand their business and to help fund the parent's succession plan. The company met its working capital needs by factoring. They found it to be cost effective because banks usually calculate interest on a company's entire line of credit, even if the firm is using only part of it. In contrast, this family business received an advance against its accounts receivable, paying interest only on money it actually was using.
The flexibility of factoring can also be appealing; as sales grow, so does its borrowing ability.
Finally, by working with a factoring firm, the apparel manufacturer was able to outsource many of its accounts receivable functions. This saved them from having to buy software or employ a staff of people for receivables management.
Another family business, a cell phone parts distributor, wanted to be able to take advantage of volume discounts from overseas suppliers on a regular basis.
They frequently placed orders for cell phone accessories and buying in bulk would create a short term working capital crunch for them. Factoring provided a great solution because they could use their A/R to provide them immediate capital they could use to make payroll, pay suppliers and fill other needs in the business.
Two entrepreneurial brothers started a software consulting firm that was growing rapidly and experiencing a cash flow crunch due to customers taking 45-60 days in some cases to pay invoices. The brothers also had many customers who paid their invoices in a timely manner. They were able to sell only the invoices of their slow paying customers to help them generate the cash flow they needed - while keeping their factoring costs predictable by having a contract that specified their costs no matter how many days outstanding the invoice became.
Factoring and International Business
Family business expert Don Schwerzler, founder of the Family Business Institute, recommends family business clients consider themselves as competitors in a global market. As more family businesses have international operations, the need for factoring arrangements is increased. When family businesses source supplies and products from around the globe, it takes them longer to convert raw materials to finished goods, then to fulfill an order and get paid. Components and supplies may be in transit longer and the time value of money becomes a consideration. Additionally, overseas suppliers may want to be paid in advance but the order conversion to cash from receivables may take 30 to 90 days. This creates a working capital problem. Alternatively, these family business owners can use factoring to alleviate cash shortages international business operations can create.
If you are not able to find exactly the right answer for your problem - ASK THE EXPERT will respond within 48 hours - a complimentary service for members of family-owned businesses.
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