Small Business Factoring and Microfinancing (Small Companies)

Most financial institutions don’t offer solutions to smaller companies because they don’t generate substantial fees. This situation leaves small businesses and self-employed individuals with few options. One financing option that works well with small companies is factoring. It’s a solution designed to help with cash flow problems due to slow-paying clients. This article covers:

  1. A common cash flow problem
  2. How to solve cash flow problems
  3. What is accounts receivable factoring?
  4. Advantages for small companies
  5. Is factoring right for your small company?

1. A common problem

Companies with commercial and government clients usually get paid on credit terms. It’s a standard way of doing business that gives clients 30 to 60 days to pay an invoice. However, it is also a common source of cash flow problems for some companies. Let’s examine this situation from the small company’s point of view.

The small business must cover the expense of delivering the service or product to the client. Then, it must wait for one to two months to get paid. In the meantime, the company has to cover the costs of running the business out of its cash reserves. This delayed payment leaves the company exposed to financial problems if its reserves are low or if they are growing quickly.

2. Simple solutions for the cash flow problem

There are several ways to solve cash flow problems due to slow-paying customers. The best way is to build a cash reserve and become self-reliant. However, this goal may not be feasible if the company has an immediate financial need. The company can use financing to help with the cash flow shortfall in these cases.

a) Build a cash reserve

The best way to avoid financial problems is to build a robust cash reserve that can handle your foreseeable needs. Building a cash reserve is simple but requires financial discipline and takes time. It’s a matter of setting some funds away every month until the reserve reaches the desired level.

b) Offer early payment discounts

Offering an early payment discount to clients is an effective strategy for small companies with intermittent problems. As the name suggests, clients get a discount if they pay early. Typically, the discount averages 2% if they pay in ten days or less. Otherwise, they have to pay the total invoice price.

c) Use financing

Companies can also improve their cash flow by using a line of credit. The company can use the financing line selectively to cover shortfalls. Unfortunately, lines of credit are seldom available to small businesses and “micro” companies. They simply cannot meet the underwriting requirements. However, one alternative provides similar benefits to a line of credit. It’s called invoice factoring.

3. How does factoring work?

Accounts receivable factoring allows your company to finance its slow-paying invoices from creditworthy clients. It provides funds that can be used to cover business expenses and smooth out operations.

The transaction structure is fairly simple. In most cases, the factoring company finances your invoices in two instalments. The first instalment covers 85% (varies) of the invoice and is deposited into your account after submitting it to the factor. The remaining 15%, less the factor’s fee, is deposited into your bank account as a second instalment once your client pays the invoice. To learn more, read “How Does Factoring Work?

Factoring can be used as a microfinance solution to finance small businesses. It can even work in single-person companies, such as owner-operators, consultants, etc. To learn more, read “What is Receivables Factoring?

4. Advantages for small companies

Accounts receivable factoring offers several advantages to small businesses. It is specifically designed to solve cash flow problems related to slow-paying clients. Here are the three most important benefits.

a) Allows you to offer terms to clients

A factoring line lets you offer net-30 to net-60 terms to clients while minimizing cash flow concerns. The invoice can be financed shortly after your company completes the work/delivers the product, strengthening your financial position.

b) Available to small and micro businesses

The solution is available to companies of all sizes, which includes small and micro businesses. The requirements to qualify for a small factoring line include having:

  • Creditworthy commercial clients
  • Good invoicing practices
  • Invoices free of liens (PPSA / hypoth√®ques)

c) Can be deployed quickly

Most factoring lines require only a limited due diligence process. In most cases, this process can be completed in a few days. The line can usually be deployed shortly after the due diligence is completed and the account is set up.

5. Is factoring the right solution for your small company?

Factoring financing lines are flexible and easier to obtain than comparably sized bank lines. However, they are not right for every company. Factoring lines work well for companies that:

  • Have creditworthy commercial clients
  • Offer net-30 to net-60 terms
  • Have cash flow problems as a result of offering terms

Can we help you?

As a leading factoring and purchase order financing company, Commercial Capital LLC (Canada) can provide your small business with a competitive quote. We believe that a well-informed prospect makes a good client, and we have one of the most comprehensive websites on the subject. If you have further questions, call us toll-free at (877) 300 3258.