Accounts receivable loans have become popular with small businesses looking to smooth their cash flow. But the truth is, this type of financing offers other benefits for your small business, too. When you have enough working capital, you can pay your bills efficiently. Readily available cash also lets you grab new opportunities before they get away.
In an article for the Houston Business Journal, Mie-Yun Lee explains. “You’ve landed a big client. Before you can get paid though, you need to deliver the goods. But how can you do so if you don’t have the money to hire the people or buy the equipment to attain your goal? Ill-timed cash flow is a problem businesses face everywhere.”
Barry Moltz puts it more bluntly. “All companies go out of business for the same reason: They run out of cash.” As an entrepreneur and business coach, he knows first-hand what you’re up against. As small business lending experts, our team here at United Capital Source (UCS) can coach and assist you in the art of smart business financing. That includes using A/R loans to build your business and nurture your own entrepreneurship dream.
THE SMOOTHER YOUR CASH FLOW, THE BETTER
Wouldn’t it be nice if your patients and insurers paid their bills right away? If you didn’t have to shell out big money now for inventory you won’t sell for months? Sure, those things would be nice. But that’s not the nature of business. Especially for small businesses, cash flow is an ongoing concern. Lack of cash can force you into debt. And make it a lot tougher to grow your business.
Your revenue may look great on paper. You’re racking up sales right and left. The problem is getting that money into your bank account. Having a lot of receivables may make you feel good, but you can’t spend it. It’s in limbo – functionally, it doesn’t even exist. And the more time you spend trying to collect the money, the more you whittle away at your profit margin.
That’s where accounts receivable loans come into play.
WHAT ARE LOANS ON ACCOUNTS RECEIVABLE?
You might have heard accounts receivable loans are a last resort. Only small businesses desperate for cash would consider such a thing. Not true! It is very difficult for small businesses to obtain traditional bank loans. And large, long-term business loans are not the best solution to every financial need. Today, A/R loans have emerged as a practical, convenient alternative. They have gone mainstream.
In a nutshell, you are selling an existing business asset – your unpaid invoices, or receivables -- to a third party. You get money right away. Accounts receivable lenders are called factors because they discount, or factor, the dollar amount of your receivables. They pay you most of the face value at the time of your agreement. When they collect payment from your customers, they pay you the remainder, less a percentage. That’s their fee. It’s like interest on a traditional loan.
Because you get your money right away, you can use it now rather than waiting 30, 60, even 90 days for payment. You’re trading a percentage of revenue for predictability. Yes, you lose a little income. But the ability to plan and forecast boosts your ability to grow. You know you’ll have the money to pay for unplanned expenses as well as daily operations costs. Predictability can be a big relief if your business is seasonal, to carry you smoothly through sales ups and downs.
A Merchant cash advance is a similar program. It works a bit differently. With an A/R loan, the money you receive is based on existing receivables. With a merchant cash advance, the money is based on future credit card receivables. Instead of collecting payment from your customers, your lender collects on your future sales. That amount is determined by two things:
- The factor rate – the total amount your lender will take (the amount you’re borrowing)
- The retrieval rate – the percentage of each sale they will collect (the higher the percentage, the faster your advance will be paid off)
You can do almost anything with the money. That flexibility is your best friend, because your small business is not exactly like any other. You might need cash for operations expenses. Or you might want to:
- Hire more people
- Buy more supplies or inventory
- Increase marketing
- Expand your business
- Serve more patients, serve more meals or service more accounts
My point is, instead of worrying about paying your bills, you can focus on making your business dreams a reality.
BENEFITS OF ACCOUNTS RECEIVABLE LOANS
Small businesses have a great advantage over the Big Boys. Agility. The bigger the business, the more cumbersome decision-making and execution become. As a small business owner or entrepreneur, you can move quickly. You can fix problems before they get out of hand. And you can snap up last-minute opportunities. But you can’t do any of that without money. “Hold that thought while I apply for a loan,” doesn’t cut it.
By improving your cash flow, you can:
- Shorten your business cycle. That’s the period of time between making a sale and receiving payment. The shorter this time, the faster you can plow money back into your business. That’s how you grow.
- Make more sales. You can offer customers better terms as an incentive to buy and still get your money up front. Or you can finally land that really big account. Large businesses can be slow to pay, which makes it nearly impossible to trade with them as a small business. You can’t afford to extend that kind of credit. Factoring irons out that wrinkle, opening new doors to expand your business.
- Save money. Your bottom line benefits when you save money, just like it does when you increase revenue. If you can pay your suppliers up front or faster than standard, say within 10 days, they are likely to give you a discount. With consistent cash flow, you can take advantage of this benefit. (Your vendors will also be happy to give you a good credit reference, because you’re benefiting them, too. Just like you, they don’t have to wait around for payment.)
- Save time. As I said earlier, factoring takes the burden of collection off your shoulders. Just think what you could do with that time!
- Boost your credit rating and overall financial status. It’s easy to develop bad credit when you can’t pay your bills on time, all the time. Accounts receivable loans keep you on track. No more worries about paying your vendors. Or paying your people. It’s easier to pay off existing loans or other debt, further improving your financial picture. And since A/R factoring isn’t considered a “loan,” there’s no debt to show on your balance sheet. When the time comes to apply for a traditional long-term loan, you’ll look good to potential lenders.
And speaking of credit, accounts receivable loans are a great alternative if your business credit isn’t so hot. Factors don’t have to worry whether you’ll pay them back. However, they do want to be confident your customers or patients will pay their bills.
Factoring is a quick way to generate cash, whether you’re in a financial pinch or looking to smooth longer-term cash flow. Our UCS experts can help you secure the best factor for your business in just a few days. Also, here's a good guide on how to manage your receivables.
HOW TO CHOOSE A FACTOR
Not all lenders are the same. That goes for factoring companies, too. Before you pick one, you should:
- Decide if you want to factor all or just some of your invoices.
- Find out how they will collect from your customers. They are collecting on your behalf. That’s a good thing, in that your customers or patients won’t know you sold their invoice. But the process will reflect on you. Your clientele probably will not appreciate heavy-handed tactics.
- After all, you want the best deal you can get. But don’t agree to an exclusive engagement. Then you’re stuck with someone who may not be your best choice in the future.
This can be a lot of work. It can be time-consuming. And it certainly can be confusing. You know what’s a lot easier? Teaming up with our folks at United Capital Source. We’ve already done the work. We know many factoring companies. Which ones work best with which types of small businesses. Which one will be the best match for you. We aren’t beholden to any of them, so that “best match” is an unbiased recommendation.
That’s what sets us apart from other online, alternative lending resources. We know that business success is based on long-term relationships, not one-off sales. So we don’t focus on making the deal. We focus on establishing and nurturing relationships with small businesses. That way we can help you get the best accounts receivable loan now and help you choose other forms of financing to grow your business in the future.
GET A GRIP
On your cash flow, that is . . .
Any small business can suffer from insufficient cash flow. But medical practices are among the most vulnerable. The Medical Group Management Association says the average practice in America fails to collect a whopping 25% of money owed for patient treatment. If you’re a doctor, dentist or other medical professional, you know you’re losing out on direct payments. But denials also damage your cash flow. And so do claims that fall by the wayside. Accounts receivable loans can treat these financial problems effectively.
If your cash flow is not sufficient, frustration and worry set in. It can be tempting to delay making payments to “stretch” the cash you do have. This is a risky business. If you do it rarely – to cover a one-time shortage, for instance – you can get back on track. But what happens if you do it too often? Or let payments slide too far in arrears? You’ll damage your business credit. You have replaced one problem with another. Or perhaps merely piled a second problem on top of the original.
I quoted Barry Moltz at the beginning of this article. He says small businesses run out of cash due to poor receivables management. The National Federation of Independent Business agrees. “A business can survive indefinitely if it doesn’t run out of cash, but without cash it can remain open only weeks or months regardless of how profitable it might be on paper. Many businesses have appeared profitable on paper right up until the time they were forced to close because of a shortage of cash.” I cannot stress this point too much.
There’s no doubt accounts receivable loans can benefit your small business. But you want to use them as a money management tool, not a crutch. Accounting giant QuickBooks notes that “companies that can’t collect payments from their customers are forced to draw from their cash reserves or seek outside financing to make ends meet. As a result, owners have less cash on hand to manage operations, pay employees and ultimately grow their businesses.”
Do everything you can to manage your receivables more effectively. “The fact is that cash flow is a crucial element of overall financial performance,” notes QuickBooks. “Managing your accounts receivable well doesn’t just keep your business running smoothly from day to day, it also helps ensure a long and profitable future for your company.”