Asset based factoring
Factoring is a simple way to finance your working capital. Once you've set up an initial arrangement with a factor, every time you invoice a customer, you send a copy invoice to the factor – who in return will advance you up to 90 percent of the value of the invoice, and take responsibility for collecting payment from the customer.
Asset based factoring is a particularly useful source of finance for companies which don't have significant fixed assets on their balance sheets, and may find it difficult to secure a bank loan without property or plant as collateral. Asset based factoring offers a much more flexible way to raise finance, too, since the amount advanced reflects the level of sales that has been invoiced. It is a revolving credit. If your company is growing, the amount of the loan will grow with it – no need to go cap in hand to the bank every six months for another fixed loan.
Some firms are cautious about chasing large credit orders, as they fear they won't be able to finance the working capital required, or dread having to secure a fixed loan in order to be able to accept the business. Businesses which use asset backed factoring don't have this problem – if they win the order, they'll get a significant percentage of the contract value in cash as soon as they write the invoice. Manufacturing and wholesaling businesses which need to take on inventories to meet such orders will see particular benefits from factoring.
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Who is asset based factoring useful for? Most businesses other than retailers can benefit, but here's a basic checklist to tell if you would benefit from factoring.
- If you sell on credit,
- If you have to pay your suppliers before your buyers pay you,
- If you have high stock levels,
- If you bill customers on longer credit terms than your suppliers allow you,
- If you bill customers monthly (or quarterly) but your staff have to be paid weekly (or monthly),
- If cash is tied up in unpaid invoices,
Then factoring could help your business finance its working capital. Effectively, you're taking the debtors item in your balance sheet and turning 75 to 90 percent of it into cash.
Often used for financing the working capital of growth businesses, asset based factoring can also help finance a management buyout or acquisition, perhaps in combination with other forms of lending. This might avoid the involvement of venture capitalists, who would otherwise want a slice of the action and a seat on the board.
A factor will take on the task of managing your entire sales ledger – the factor will handle collecting payment, including invoice chasing where necessary. This enables your staff to get on with managing the business instead of worrying about cash flow.
On the other hand if you don't want to have a third party in between you and your customers when it comes to collecting payments, you could choose invoice discounting. This is very similar to asset backed factoring, but you retain control of your own sales ledger and are responsible for collecting payments from your customers, and remitting what you owe to the discounter. It can work well for companies which have an efficient accounts department, and charges are less than for factoring, since the discounter is not offering a collection service.
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As well as offering asset backed factoring, some trade finance houses offer funding secured on other current assets, such as stocks. Companies with significant inventory positions may find it difficult to secure business finance. Banks may not regard their stocks as good collateral for a standard business loan, particularly if that stock is short term in nature. For instance, companies which supply major retail customers often need to make large import orders, which are chunky and infrequent, leading to a 'bulge' in stocks.
Asset based factoring coupled with other asset based lending can help address this difficulty. A good factoring company or broker can help to tailor make an asset based factoring deal that reflects the value of both the company's invoices and its stocks.
Companies that have large amounts of capital invested in fixed assets such as properties, plant, and fleets of vehicles have always been able to borrow in various ways against these assets – they can secure a commercial mortgage, enter into leasing deals, or use the assets as collateral for a bank loan. Asset based lending, including asset based factoring, means that companies whose capital is mainly invested in shorter term assets like debtors, raw materials and work in progress, are able to take advantage of the same opportunity to borrow against their balance sheet.
Many factoring companies offer asset based factoring and other asset based lending. Getting a number of competitive quotes and comparing the different offers can be time-consuming. So you should consider using a finance broker like Touch Financial.
Brokers have extensive contacts in the sector and know which lenders are reputable, and which are not. They can search the market for the best asset based factoring quote. Since service charges for factoring can vary from half a percent of 3 percent, a good broker can save a substantial amount of money on the cost of an asset based factoring arrangement. As well as the service charge, interest is charged on the amount outstanding. Here again the rate can vary - it is usually one or two percent above the bank base rate – and a good broker can save you money on the cost of your advance.
Because asset based factoring is an ongoing arrangement, not a single one-off loan, the cost of getting the wrong deal can be considerable. Most factoring contracts have a three month termination period, or longer, allowing for an orderly run-down of the invoices that have been factored. You're tied in to the deal – so you need to make sure you don't make mistakes. A broker's experience and expertise can help you get it right first time.
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