Cash flow means everything to a growing business.
Whether it’s meeting payroll or funding product development, an adequate
supply of cash flow is vital for both daily business and sustainable growth.
Cash flow, however, also means frustration to the entrepreneur who soon figures
out that cash from customers never seems to realize in time to meet payables and
other expenses. To the entrepreneur, the most vital part of business, is also
the toughest to manage.
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Traditional solutions, other than bootstrapping, for cash flow management
come in the forms of debt and equity financing. Banks and SBIC lenders offer
businesses a low cost, debt solution to cash flow deficiencies. However, for an
early stage business with few assets for collateral and a weak statement of cash
flows, this type of financing is usually unobtainable. Equity financing includes
venture capitalists and angel investors, who offer the entrepreneur a
remunerative solution for cash. This form, if you can find it, however, requires
the entrepreneur to give up partial ownership and a share of profits in exchange
for the investment.
For entrepreneurs who are unable to secure commercial debt or unwilling to
give up shares in their company, there is an alternative solution to managing a
business’s cash flow. The alternative is factoring, also known as, accounts
receivable financing. With factoring, a business can receive immediate cash for
its accounts receivable. Factoring does not create debt, and therefore, has
fewer restrictions and covenants than debt financing. In addition, since
factoring does not require equity participation, ownership dilution and profit
sharing are not issues.
The factoring process is simple. Privately funded financiers, known as
factors, purchase accounts receivable from businesses, by advancing the business
a percentage of the account’s cash value. Once the factor receives payment on
the account, they reimburse themselves for the original amount advanced, take
out a fee, and return the rest to the business. For example, if a business
factors a client’s invoice for $1000, they might receive an $800 advance from
the factor. When the client’s payment is received, the factor retains the
original $800, as well as a fee of, let’s say, 3% of the invoice, and returns
the remaining $170 to the business.
Factoring allows businesses to gain better control of their receivables. By
factoring select invoices, businesses can avoid interruptions in cash flow due
to slow paying customers or long remittance periods. With cash flow better
managed, entrepreneurs can concentrate on growing their business, rather than
worry about finding cash.
About the Author:
Amy Colby is with the Hamilton Group. For more information about how factoring can help businesses manage cash
flows, visit http://www.hamiltongroup.net.
