In business, cash is king, as they say. But what if the client requires longer payment terms, say 60 or 90 days? This is sometimes the case when small and medium enterprises deal with large corporations and multinationals.
Imagine the huge impact of these stretched payment terms on cash flow! Small companies will have to be more resourceful and creative in exploring financing options, or else they will have difficulty meeting the monthly payroll.
Enter receivables factoring, also known as accounts receivables financing. Investopedia.com defines accounts receivable financing as a “type of asset-financing arrangement in which a company uses its receivables — outstanding invoices or money owed by customers — as collateral in a financing agreement.”
Simply put, the financing outfit gets the receivables from the company, which then agrees to be paid a reduced amount.
This financing scheme is already widely practiced in the Philippines, according to BDO Leasing and Finance Inc., one of the country’s top receivables factoring companies.
“It’s good for the small and medium enterprises, and we’re able to grow with them,” says Roberto Lapid, vice chairman and president of BDO Leasing.
Let’s take for example a company that provides manpower, say 500 workers, to a large corporation. But the large corporation has a “payment habit” of 60 to 90 days.
What financing companies like BDO Leasing can do is advance the monthly salaries of the 500 workers to the manpower service provider, and collect the receivables from the large corporation after 60 or 90 days.
Another example: a company that produces small toys that go with fast-food chains’ children’s meals. Rather than wait for 60 or 90 days to get paid, that company can simply tap BDO Leasing to take over its receivables and get back its cash quickly.
Factoring is big business
Two things are needed for receivables factoring to proceed. First, the company notifies its client that it has a receivables factoring arrangement with a financing firm. The financing outfit, say BDO Leasing, then verifies these receivables and collects these directly.
“The only asset is the receivable. We don’t require any additional collateral,” Lapid explains.
Factoring is big business, Lapid notes, citing China, where factoring transactions amount to $3 billion annually.
“Case in point – a security agency where we had initially a P3-million factoring. The last time we talked to them we already had a P130-million deal. That’s how big the funding requirement is,” says Lapid.
No more worries on collecting debt
The goal of receivables factoring of course is for a company to get back its working capital in an expeditious manner. This way, small businesses don’t have to devote a large amount of time and resources just to collect debts. The factoring company will do this for them.
Receivables factoring also opens a new financing window for small enterprises who otherwise would have faced some difficulty getting loans from commercial banks, Lapid says.
Next week, we’ll tackle another way for businesses to free up receivables and quickly recover working capital, through installment paper purchases.