What You Should Know About Accounts Receivable Financing

If you own a small business, you may experience times when your cash flows are low or an emergency arises and you need cash quickly. There are times when traditional lenders are not an option. For example, if you don’t have established business credit, your company is new or you don’t need a large influx of cash, your loan may be denied. In addition, the loan process takes weeks or months to complete. In these cases, you need other options.

Accounts Receivable Financing

You can gain a quick influx of cash based on your current accounts receivable. These current assets represent your company’s outstanding invoices that are due to be paid within one year. Therefore, they are liquid assets that are used to calculate your company’s quick ratio. The more accounts receivable you have, the better your balance sheet looks. However, these accounts could be a burden if they are not quickly converted to cash.

Your Potential Cash Payment

This financing process also called factoring, involves a factor that purchases your outstanding invoices for cash. The factor purchases these invoices at a discount, but up to 90% of the cash is available to you immediately. Be aware that each factor offers different financing terms.

You Could Get a Loan

Factoring companies also provide loans based on your accounts receivable, so you don’t have to forfeit your outstanding invoices. You do still have to pursue the collections process on these invoices, but you keep the entire amount. However, a loan does have added fees and interest rates, and if you default, your collateral, your outstanding invoices, are surrendered to the factor.

Your Account Payment Responsibilities

Once a factor takes possession of your outstanding invoices, you are no longer responsible for collecting those accounts. The factor takes on the collection tasks and risks. You never have to worry about these clients defaulting on their invoices because it won’t affect your cash flow. However, a factor will not typically purchase the invoices that your customers have already defaulted on.

How Factors Make Their Lending Decisions

Factoring companies use an underwriting process to determine your creditworthiness and the value of your accounts receivable. They will base the terms of your loan or payment on several factors. For example, the size of the companies that owe you money and how long they have been in business are considerations. In addition, your factor will consider how old the invoices are and their original terms.

Accounts receivable financing can be a great option for a quick cash influx. However, do your due diligence before pursuing this financing option.