Factoring:<br>Factoring Versus Bank Loans

Banks generally approve short-term loans based on a company's capacity to repay, as determined by cash flow and collateral. A company has to meet the Bank's general criteria:

• Stable and strong business (min. 3-5 years)
• Positive cash-flow (min. 2-3 years)
• Strong past financial results
• Collateral at least equal to the loan amount (normally fixed assets clean of other liens, sometimes personal assets)
• Good, clean credit history

It may also involve:

• Lengthy loan application and disbursement processes
• Comprehensive supporting documentation
• A fixed loan amount and maturity
• Reapplication for additional funds (additional collateral)
• That the bank be sole provider of financial services to the company

A loan offers the advantage of a lump sum for immediate investment.

As an alternative way to finance growth, factoring eliminates many of the bank's difficult-to-meet criteria. Moreover, assuming the company can get a loan to cover initial start-up capital or day-to-day operations, once those funds have been spent, it will still be waiting for invoices to be paid.

The biggest problem with bank financing is that once the company has reached its maximum credit limit, it can find itself with little room for manoeuvre, with a weak cash flow and no additional collateral.

Factors usually base their decision to provide a company with cash on the credit worthiness of its customers and the value of its accounts receivable.  In this way, the factor may provide financing, even if a company is new or has a weak credit history or slow cash flow.

The factor is more flexible than a bank in taking increasing sales into account, because each account is evaluated individually.

General characteristics of factoring include:

• Approval based on the quality of the company's customers, not the company itself
• Short application process
• Short approval process
• Cash in 48 hours or less
• Accounts receivable used as ‘collateral,' leaving fixed assets free to secure bank loans
• The factoring credit line grows in line with the business (so that the factoring ‘loan' is not limited)
• Start-up companies are acceptable (strong business relationships required)
• Simple and short procedures for changing or extending credit terms
• Provision of non-financial services, including: maintaining accounts receivable, collecting debts/accounts receivable, and protection against credit risk/default)