One of the most common problems for small and growing companies is having to offer trade credit to their commercial clients. This allows customers to pay their invoices in net 30 to net 60 day terms. Offering terms is a common business practice, but it can create cash flow problems for companies who cannot afford to wait that long for their payments.
Why do customers request trade credit?
There are two reasons why commercial clients request credit terms when they buy your products or services. The first one is bureaucratic. Basically, invoices to large companies often need to be approved by multiple managers. This process is slow and takes time.
The second, and most important one, is financial. Demanding trade credit terms from their vendors improves their cash flow. Your clients get to use your products and services for up to 60 days before paying for them. It’s very similar to getting a short term interest free loan, and definitely a good deal for your client.
The cost of term credit
If your customer demands net 30 terms and you can’t afford to provide credit, you have two choices. You can provide credit and hope that you don’t get into financial problems. Or, you can decline the sale and let a competitor take your client.
Both options are bad and have a financial cost to your business.
Solve the problem – finance invoices
A simple way to solve this problem is to use invoice factoring, a tool that solves the cash flow problems that are created by slow paying clients. It finances your accounts receivable from credit worthy commercial clients and provides you with quick funding.
Instead of waiting for your invoices to pay on their regular schedule, a factoring company provides you with financing using your invoices as collateral for the transaction. This improves your cash flow. However, the most important benefit is that it minimizes the problems of offering trade credit to your clients. Your company can offer terms to clients and finance receivables to pay their operating expenses.
To learn more, please read “What is factoring?”
How does it work
The transaction is relatively simple as is structured in two installments. The factor advances the first installment once your product or services has been delivered to your client, and accepted by them. This initial installment averages about 80% of your receivable.
The second installment, the remaining 20%, is rebated as soon as your client pays their invoice on their regular schedule. The finance fee is often discounted from this installment. For more detailed information, please read “How does factoring financing work?”
Can you qualify?
Invoice discounting is easier to get than most conventional financing solutions. As opposed to bank financing, there are no complicated collateral requirements. You will need to have clients who reliably pay in net 30 to net 60 days, because their invoices are the collateral that the factor is financing. Also, your A/R needs to be free of encumbrances and your company should not have serious tax problems. Lastly, your company should have healthy profit margins, ideally higher than 15%.
Most small businesses that work with good customers, have good invoicing practices and are well run, should be able to qualify.
This solution has a number of advantages over other programs. Apart from being easier to get, invoice discounting can be more flexible than business loans or lines of credit. The facility is designed to grow with your business and can increase, quickly, as your sales grow. This makes it an ideal option for growing companies that need immediate financing.
How much does it cost?
The cost of the factoring line is based on the size of your facility, the credit profile of your customers, your billing practices and the general risk of your industry. Rates can go from 1.5% to 3.5% per 30 days depending on how your company measures against these criteria.
Get more information
Are you looking for a factoring quote? We are a leading Canadian factoring company and can provide you with high advances at low rates. For information, get an online quote or call (877) 300 3258.