Asset Based Loans. The Difference Between A Factoring Loan and a Line of Credit

Asset Based Loans. The Difference Between A Factoring Loan and a Line of Credit

Huntington Beach, CA Asset based loans cover loans secured by any assets on a company balance sheet. For example, a loan secured against accounts receivable, inventory, equipment and real estate are all generally considered asset based. There are asset based term loans and asset based revolving loans. Term loans would cover real estate and equipment while revolving loans would be secured against inventory and/or accounts receivable. For more information on asset based loans secured by equipment, please visit our sister company Equipment Finance Quotes at www.equipmentfinancequotes.com.

For discussion purposes today, we will be focusing on asset based loans secured by accounts receivable. These loans are commonly referred to as factoring loans or accounts receivable factoring. Let’s get started.

What is accounts receivable factoring?

When a company factors their accounts receivable they are taking an advance on the invoice that was created when they sold on open terms to their customer. The transaction is almost always between two commercial entities versus sales made directly to the consumer.

These factoring loans are taken to improve company cash flow by speeding up the collection cycle. Without accounts receivable factoring, many companies would go out of business waiting on customers to pay them. Companies have daily cash needs and if you have slow paying customers, it can seriously impact your cash flow and your ability to meet your overhead burdens.

Factoring loans are an advance on an invoice to a customer. While this form of financing is popular across many industries you may be surprised to hear that a factoring loan is not loan at all. From a legal perspective it is a Buy and Sell Agreement. This is because the factoring is purchasing the invoice from the customer for a period typically up to 90 days.

The loan is paid back when the customer pays. The customer payments are directed to a separate lock box controlled by the factoring company. The customer payment is applied first the advance made against the invoice which, is typically around 80 percent, and the remaining 20 percent is remitted to the client minus the fee for the factoring service. The fee will be based on the amount of days it took to collect the payment on that particular invoice.

Aside from the improvement in cash flow realized by using a factoring company, there is another benefit. Because factoring companies manage the collections on accounts receivable, they are able to maintain accurate and reliable records of payments from customers. Factoring companies essentially outsource this function of the back office management. This is a big savings for the company and savings get larger the larger the company factoring their invoices gets. Credit and collections is a big part of back office responsibilities for any business selling on terms to their customers. Factoring companies completely outsource these functions saving the company salaries, benefits and down time from sick days you would expect with hiring an employee direct.

What is a Line of Credit?

A line of credit against accounts receivable is a revolving loan against the balance of accounts receivable. Typically the advances are made bi-weekly or monthly depending on the cash needs of the business. Unlike a factoring loan a revolving line of credit only provides for financing against the accounts receivable without the back office management associated with factoring loans.

Which is better for my business? The decision on whether to select a factoring loan or a revolving line of credit depends on many variable. The argument in favor of factoring companies is that they provide both capital and back office management to the company. A line of credit is typically lower in interest expense, but harder to qualify for.

Qualifying for a line of credit is a more thorough process. The balance sheet of the company is checked for things like positive working capital, income and retained earnings. A company that is deficient in any of these areas is rarely approved for a line of credit. When applying for a similar line through a factoring company, the process mainly focuses on the financial strength of the customer.

Conclusion

Both a line of credit and a factoring loan can benefit your business by improving available cash flow to meet overhead requirements. The option you choose will rely on what is most important to your business.

Could your business benefit from either a line of credit or factoring loan? If so, we would like to hear from you.

To Your Success!

Patrick Zazueta
Founder | Huntington Coast Capital
714-719-8966

Asset Based Loans  The Difference Between Interest Rate and Opportunity Cost

Asset Based Loans The Difference Between Interest Rate and Opportunity Cost

Huntington Beach CA 

What is the interest rate? How much does it cost? What fees are involved? These are some popular questions our clients ask when considering borrowing money to grow their business. These questions are typical when looking to see how much something is going to cost over the long run. However, these questions are more applicable to purchases related to a home mortgage, a car loan, applying for a credit card or other more commodity based financial products.

When considering Opportunity Cost the analysis is much different. For example, if I told you the cost of capital for fulfilling multiple $100,000 orders is 20%, you may say “that’s too expensive!” However, when you take a closer look at it, the true funding costs may be only 6% to 7% per order less early payment discounts. The borrower makes substantially more money than the cost of financing if the margins can support the cost.

Here is an example of a typical analysis we take our clients through. It’s a simple way to determine if financing is right for your business.

  • A purchase order is received from a customer and the cost of goods is $100,000 (your cost or wholesale cost)
  • Your gross margin on this sale is 60% (your sales price to the customer is $160,000)
  • Your financing cost is 6.5% of your wholesale cost for 120 day funding or $6,500 ($100,000 multiplied by 6.5%)
  • The gross profit calculated after financing cost is $53,500 on this order ($60,000 profit minus $6,500 in finance cost)

The question becomes, “would you spend $6,500 to earn $53,500?” Most all of us would agree that is a worthwhile opportunity. There are some variables that can effect these numbers both positively and negatively. For example, if your company has high fixed costs, this will chew in to the profits. On the contrary, if you are able to negotiate a discount for early payment to suppliers (i.e. a 2% discount for payment in 10 days, expressed as 2%/10 net 30) it will have a positive effect on profits.

Keep in mind that this is one sale and each additional sale will have a better net earnings ratio. This is because fixed costs typically stay the same and more profit gets kicked to the bottom line as more sales are realized. An example of where this analysis doesn’t make sense is if a company has out of control fixed expenses or super slim margins as seen in the electromics industry. In our experience, this analysis pencils out for most of our clients.

We always encourage our clients to look at how much they stand to make versus solely focusing on cost. The lender also needs to earn a return and if expectations are managed, business owners can grow their companies and earn more as a result.

About Huntington Coast Capital. 

Huntington Coast Capital secures funding for companies in a broad base of industries. Our clients come to us to find a more flexible lending partner to meet their growth needs. Many are declined by the bank and are in need of a more creative and entrepreneurial funding solution.

We consult on a wide range of funding options for business owners throughout the United States in the following areas:

  • Supply chain financing 
  • Equipment loans and lease programs (learn more about our equipment loan platform offered through our subsidiary)
  • Lines of credit for working capital needs
  • Term loans for marketing, hiring staff and general expansion needs
  • Factoring services for accounts receivable financing that also provides for back office credit and collection functions
  • Purchase order financing
  • Asset based loans
  • Business acquisition financing
  • Inventory financing
  • Private commercial real estate bridge loans
  • SBA loans for business and real estate needs

Whether you are a startup or established, in need of $100,000 or $10,000,000 we have the capital partners to meet your needs. Contact us to see how we can assist in taking your business to the next level. To your success!