Alternative Business Financing

Finding the right solution to finance a business has always been a challenge for owners. Most are only aware of conventional products, such as business loans or lines of credit, that are offered by financial institutions.  While this products can work very well, they are usually offered by financial institutions that have conservative lending standards which can make the inaccessible.

Not too long ago, getting a business loan was relatively easy, especially if the business owner had a home that could be used as collateral. Nowadays, business loans are much harder to get. Financial institutions will ask for two to three years worth of financial statements and review them very carefully. Likewise, they will only get involved in lending transactions if the business has substantial collateral and if the owner has a significant net worth.  These criteria all but rule out small business. Because of this, alternative business financing solutions have been on the rise.

Most small companies that look for business financing do so because they have cash flow problems. Usually these happen because the company has to give 30 to 60 day payment terms to their customers but has expenses that need to be paid quickly. In effect, they can't afford to wait up to 60 days to get paid. One obvious way to fix this problem is to use a line of credit to cover expenses while waiting to get paid. But if a line of credit is not an option, invoice factoring may be the right alternative solution.

Factoring is an form of business financing that accelerates your cash flow due from slow paying customers. It works by using a financial intermediary, called a factoring company, that advances funds  against your slow paying invoices. The factoring company holds the invoices as collateral, while your company gets a cash infusion that can be used to meet your current business expenses. The transaction is settled once your customers pay the invoices , though many companies establish revolving factoring lines that can be used on a regular basis.

Most factoring transactions are structured so that invoices are funded in two stages. The initial advance is provided  as soon as the work is completed and your customer is invoiced. Most initial advances are for 80% of the invoice, but this can vary based on certain conditions. The second advance is provided once the invoice is paid in full and covers the remaining 20%, less the factoring fee.

Factoring fees usually vary based on a few parameters such as the creditworthiness of your customers, the quality of your invoices, how long it takes for your customers to pay and the size of the factoring line.   Generally the factoring fee will be based on a percentage of the invoice.

One of the main advantages of invoice factoring is that it's easier to obtain than most conventional financing. The most important criteria to qualify is the credit strength of the companies that will pay your invoices - this represents the collateral for the factoring company. Aside from that, your invoices need to be free and clear of any legal or tax encumbrances.  Lawsuits, judgments and tax problems may hinder your company's ability to  get factoring financing. Most factoring companies will check this information during their due diligence process.

The biggest benefit from factoring is its flexibility. Most factoring lines are not based on fixed amount, but rather are tied to your sales. This means that the invoice factoring line can grow with your business, provided that your sales to are to credit worthy companies. This makes factoring an ideal solution for small and medium sized companies that have good potential that is being hindered by cash flow problems.