Financing Receivables and Using Vendor Financing to Improve Your Business Cash Flow

Receivable Financing

Accounts receivable financing is an interesting alternative to traditional bank financing. Receivable financing is a financial transaction that involves obtaining a loan by leveraging your company’s accounts receivables.

Accounts receivable finance is a good option for a company that has revenue in the pipeline but needs funds quickly to pay its bills. It’s also a good option for companies that just don’t want to be in the business of collecting outstanding bills and are happy to pay a small fee in exchange for receiving money upfront.

Types of Receivables Financing Options

There are a couple of ways it works. If you have a group of customers who owe your money, you can use those accounts as collateral to obtain a loan from a financing company. Then, when the customers pay their bills, you can pay off your loan.

You could also sell those accounts receivable to a factoring company. Through a service called invoice factoring, the factor would buy your non-delinquent unpaid invoices and pay you a percentage ( known as the advance rate) of what the customers owe upfront. The factoring company would then collect the customer payment. When the accounts receivable are paid, the factoring company keeps a small factoring fee and pays you the balance.

Pro and Cons of Financing Receivables

Accounts Receivable Financing Pros:

  • You get money upfront for accounts that have not yet paid
  • The financing rate may be less expensive than alternative loans or lines of credit
  • Can take away the burden of collecting unpaid bills
  • Great for any type of company with cash flow issues

Receivables Financing Cons:

  • You need to have outstanding invoices to access receivable finance
  • Terms of unpaid accounts need to be carefully recorded and maintained
  • You may not qualify if you don’t have a stable credit history

Accounts Receivables Finance vs Accounts Receivable Factoring

Here are the main differences between receivables financing services and factoring:

  • Both services are used to turn accounts receivables into cash flow when you don’t have time to wait but in reality, they are different products. Invoice financing is a loan, factoring is the sale of receivables
  • Factoring companies are buyers of a current asset and account receivable financing companies are financiers or lenders
  • Accounts receivable factoring is for commercial financing only

Benefits of Accounts Receivable Factoring

Invoice factoring is the sale of receivables so does not create debt, making your balance sheet look good.

Access to factoring is defined by the creditworthiness of your company’s customers, not your company’s credit rating.

Check this detailed article If you are interested in learning more about invoice factoring services and the factoring process.

Vendor Financing

Vendor financing is when a company you will buy goods or services from helps you finance the business. This type of financing method is more common when there is a large purchase of equipment, inventory, or real estate involved. For example, if you need to buy IT equipment, such as computers and servers, the IT vendor may give you the equipment in exchange for a loan rather than cash. In that scenario, you’d pay for the equipment over time in payments rather than upfront.

In real estate, property owners and developers will sometimes sell real estate in exchange for partial ownership of the business rather than cash. In this scenario, you’d buy a piece of land or a building and the seller would become a partial owner of your business. It doesn’t cost you anything out of pocket, but it does cost you a portion of your ownership.

Vendor financing should be considered when you have to purchase a sizable amount of hard goods. If you’re purchasing inventory for a store, computer equipment, vehicles, or other machinery, you may want to negotiate financing deals with your vendors. That will alleviate the cash crunch and allow you to build your business as you pay for the equipment.

Pros and Cons of Vendor Financing

Vendor Financing Pros:

  • Allows you to buy equipment without paying upfront
  • Preserves cash for emergencies

Vendor Financing Cons:

  • Payments may be made for a long period of time
  • Equipment can be taken back if you don’t keep up with payments