The financing landscape in the year ahead—and beyond
Though we are now nearly four years past the official end of the Great Recession, obtaining credit remains challenging for many small and mid-sized businesses. This is especially true for businesses that have experienced difficulties such as a drop in revenue, or those with inadequate capital structure to support their cash flow.
Companies like these often find that their financing options are limited, especially within the realm of traditional bank financing. In fact, many small and mid-sized businesses have simply given up trying to obtain financing. In a recent survey conducted among business owners and executives by Forbes Insights and CIT, only 11 percent of respondents said they had sought new lines of credit or small business financing over the past year in an effort to help improve their cash flow.
Asset-based Lending as an Alternative
In these circumstances, many owners often find that alternative and non-bank financing options can help them obtain the capital they need to keep the gears of their business running smoothly. Asset-based lending (or ABL) is one of these non-bank alternatives.
ABL involves the leveraging of current assets — typically accounts receivable, inventory and/or equipment. Lenders will provide the business owner with a format for the lender to track the assets it is lending against to provide some liquidity to the borrower from those assets on a revolver basis. Smaller transactions or those deemed higher risk will usually accomplish this through a factoring facility, which involves more controls for the lender to monitor.
Factoring is the outright purchase of a business’ outstanding accounts receivable by a commercial finance company, or “factor.” Typically, the factor will advance the business between 70 and 90 percent of the value of the receivable at the time of purchase; the balance, less the factoring fee, is released when the invoice is collected. The factoring fee — which is based on the total face value of the invoice, not the percentage advanced — typically ranges from 1.5-5.5 percent, depending on such credit criteria as the credit quality of the borrower’s customers, the size of the facility and the average number of days the funds are in use.
Under a factoring contract, the business can usually pick and choose which invoices to sell to the factor — it’s typically not an all-or-nothing scenario. Once the invoices are purchased, the factor manages the receivable until it is paid. The factor will essentially become the business’ defacto credit manager and A/R department, performing credit checks, analyzing credit reports, and mailing and documenting invoices and payments.