Corporate finance and capital formation involves making a selection as to what form of capital is most appropriate for the company’s set of capital needs or cash requirements at a given time. Many companies make physical products, or provide services, and then offer 30 days, 45 days or more to their customers. This, in turn, can put alot of stress on cash flows making it nearly impossible to continue operations , particularly if the business is growing.
In these circumstances, it’s a good idea to consider “time difference” financing.. or FACTORING as a solution.
Factoring is actually one of the oldest and most proven methods of financing. It was used hundreds of years ago by Merchant Bankers in order to solve the same problem for business owners – how to continue making products and delivering them when the maker of the products has to wait to get paid. Today, in a world where modern companies make and deliver both products and services, the problem is the same, and the tradition of factoring lives on.
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We often recommend factoring or purchase order financing for our clients. It is considered one of the most flexible, scalable forms of financing, and can help take a business to the next level with the least stress on operating cash flows.
How Factoring Works
Simply put, a provider of Factoring (the financier) will advance a Company up to 90% of the face value of an invoice, purchase order of contract immediately, providing that Company with immediate cash instead of having to wait to get paid. A Company can utilize invoice factoring, PO financing, work in process financing, or a combination of all three solutions at the same time, depending on circumstances. Interestingly, the factorer will primarily consider the quality of the end customer’s credit when formulating the risk profile of a given factoring program.
In theory, Invoice factoring is relatively simpler and therefore less expensive on a risk adjusted basis, while purchase order financing and work-in-process financing can carry more risk and tend to be more complex and expensive capital to utilize.
George Lovato and the BH Capital Team can help guide a business owner’s decision making process as to the best solution or combinations of solutions for a given company’s requirements. That’s part and parcel to the capital formation process, and the work we do.
Don’t Lose the Opportunity to Grow
I find that business owners often get fixated on the “cost of capital” part of an equation, rather than evaluating the entire picture. Arguably, factoring is not the least expensive money when you are looking purely at an interest rate. This can be a very myopic approach to making a decision about whether to utilize factoring, or any form of financing. Cost of capital is not only about an interest rate number. It needs to incorporate the entire situation that a business is facing at a given moment in time.
Most importantly, an evaluation of COST OF CAPITAL must consider and include the COST OF OPPORTUNITIES LOST.
In fact, when a business is growing while extending terms to customers and has no additional source of cash (equity or debt), factoring is an excellent alternative to losing an opportunity to grow. If there are no other options available, it’s the only option. And, a quite flexible one. A factoring line can be created that grows as the business grows and scales. Advance rates are tied to the health of the enterprise and its operating history.
So, factoring is, in fact, a moving, dynamic capital formation tool that should be seriously considered when no other viable alternative is available.
Contact me directly for more information about factoring programs with BH Capital Ltd.
David Wolf, Affiliate Banker, BH Capital Ltd.