AR Factoring: The Canadian Business Owner's Guide to Improved Cash Flow | 7 Park Avenue Financial

 

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Understanding AR Factoring in Canada

 

Receivables AR financing in Canada comes with the perception of an ' Ouch ' when entering this type of cash flow facility.

 

But is perception reality in this case? We’re sure it isn’t, so let’s focus on the total receivable loan experience. (By the way, it’s not a loan; you're just cash-flowing current assets). Let's dig in.

 

Trapped in the Invoice Waiting Game?

 

Your business delivers products or services perfectly, but your cash remains locked in unpaid invoices. Meanwhile, expenses pile up, expansion opportunities slip away, and stress mounts daily. 

 

Let the 7 Park Avenue Financial team show you how Accounts receivable factoring breaks this cycle by immediately converting those invoices to cash, providing the working capital you need today—not months from now.

 

Uncommon Takes on Accounts Receivable Factoring

 

1. Factoring can be a strategic customer vetting tool—factors thoroughly evaluate your clients' creditworthiness, helping you identify risks before extending significant credit.
2. Unlike traditional financing, factoring companies often value your clients' payment reliability more than your credit score, making it accessible to businesses with less-than-perfect credit histories.
3. Some specialized factoring arrangements include inventory financing components, creating a comprehensive working capital solution beyond simple invoice conversion.

 

 

The Importance of AR Factoring in Business Liquidity

 

 

Whether a business is profitable or struggling to recover, the issue of liquidity and the ability to meet obligations is always paramount.

 

Accounts receivable factoring agreements offer a flexible financing option, allowing businesses to customize the number of invoices they factor based on their specific needs.

 

The ability to finance your sales via a receivable factoring solution is a solid tool when traditional bank line of credit financing can’t be achieved. However, the type of facility you enter into, its cost, and how it works are the ‘ ouch’ factors you need to address to be successful with this type of financing.

 

 

What is Liquidity in Business?

 

 

Liquidity in business refers to a company’s ability to quickly convert its assets into cash to meet short-term financial obligations.

 

These obligations can include paying bills, salaries, and debts. Liquid assets, such as cash, accounts receivable, and inventory, are crucial because they can be readily turned into cash.

 

For instance, accounts receivable represent money owed to the business by its customers, which can be collected relatively quickly. A company with high liquidity is better positioned to handle unexpected expenses, seize new opportunities, and maintain a stable financial footing.

 

This financial agility is essential for sustaining operations and fostering growth.

 

 

Why Liquidity is Crucial

 

Liquidity is a business's lifeblood, enabling it to navigate the complexities of daily operations and strategic growth.

 

Here’s why liquidity is indispensable:

 

• Meeting Short-Term Financial Obligations: Liquidity ensures that businesses can promptly pay their bills, salaries, and other immediate expenses. This reliability is crucial for maintaining smooth operations and avoiding disruptions.

• Seizing New Opportunities: With sufficient liquidity, businesses can invest in new projects, expand operations, or take advantage of market opportunities without delay. This proactive approach can lead to significant competitive advantages.

• Handling Unexpected Expenses: Unforeseen costs, such as equipment repairs or sudden increases in raw material prices, can strain a business’s finances. High liquidity provides a buffer to absorb these shocks without compromising other financial commitments.

• Maintaining Financial Stability: A stable financial position builds trust with customers, suppliers, and investors. It signals that the business is well-managed and capable of meeting its obligations, which can enhance its reputation and foster long-term relationships.

 

 

Without adequate liquidity, businesses may face financial distress, damage to their reputation, and even the risk of bankruptcy.

 

Therefore, maintaining a healthy liquidity level is essential for day-to-day operations and long-term success.

 

 

How Accounts Receivable Factoring Works

 

 

While the bank paperwork on A/R financing is done through an ongoing ‘assignment‘ of your accounts, understanding how accounts receivable factoring works is crucial.

 

The receivable loan (again, it’s not a loan!) paperwork provides that you are, in fact, ‘selling‘ the receivables you wish to finance.

 

This process involves submitting invoices to a factoring company, which then advances funds to your organization. The factoring company plays a key role in managing the receivables, and various types of factoring are available, each with its benefits.

 

 

Addressing the 'Ouch' Factor in AR Factoring

 

 

The biggest ‘ ouch ‘ for most clients is that as cheques are collected from your client, they are deposited directly into the lender’s account, not yours, given you have received the benefit of the cash.

 

Accounts receivable factoring enables businesses to receive immediate cash for their invoices, alleviating the strain of waiting for payments and enhancing cash flow. Can this process be overcome? It sure can!

 

And that comes via entering into a Confidential Receivable Finance facility that allows you to bill and collect your accounts. Whether it’s a Canadian chartered bank or your receivable factor firm, each has a ‘ lien’ on your receivables. That’s the collateral for the cash flow.

 

 

Large Companies Use Factoring Companies As Well!

 

 

By the way, some of the largest companies in Canada or the world use these facilities. Factoring accounts receivable involves selling a company's outstanding invoices to a third party to improve cash flow and support business growth.

 

In some cases, a fancier name (‘Securitization’) is attached to the loan (it’s not a loan - have we mentioned that?!), but at the end of the day, it’s the same process - eliminating A/R from the balance sheet and generating cash at the same time.

 

Recourse Factoring Restrictions and Benefits

 

 

Typically, the same type of borrowing restrictions come with this type of financing - with one positive exception.

 

Receivables factoring typically allows borrowing against 90% of your total A/R, while Canadian banks prefer a 75% borrowing base margin. (You’d think they were more conservative or something?!)

 

 

Businesses should follow a systematic approach to calculate accounts receivable factoring and understand its financial benefits. This includes determining eligible invoices and calculating advance rates to understand the cash flow advantages of factoring.

 

 

Otherwise, the following borrowing base has the same rules:

 

 

• All North American receivables can be financed.

• Receivables must be 90 days or less current.

 

 

Cost of Factoring Fees

 

 

If you bill and collect your accounts on 30-day terms, the cost to finance a $10,000 invoice, for example, would be in the $200 range.

 

Factor fees, including the discount and service fees, are subtracted from the total amount a business can receive, impacting the net funding from invoices.

 

That $9,800 you receive when you generate a sale can be ploughed back into working capital needs, utilized for purchasing more inventory, or you can get back your $200 by taking a discount with your own suppliers or arranging better pricing based on volume purchases.

 

A Bridge to Traditional Financing

 

 

Thousands of Canadian businesses utilize this financing as a ‘bridge’ back to traditional financial solutions.

 

Factoring receivables can be particularly beneficial for businesses facing credit challenges, as it provides immediate cash flow without the need for traditional credit qualifications. If your company is growing too quickly for conventional financing, it’s often the best solution.

 

 

 

Accounts Receivable Financing: An Alternative Option

 

 

Accounts receivable financing offers an alternative to accounts receivable factoring for businesses seeking to improve their cash flow. Instead of selling outstanding invoices to a factoring company, businesses use their accounts receivable in the factoring transaction as collateral to secure a loan.

 

This financing method allows businesses to receive a cash advance based on the value of their outstanding invoices. The cash advance can be used to meet short-term financial obligations or invest in new opportunities.

 

 

The key differences between accounts receivable financing and factoring include:

 

 

• Ownership of Invoices: In accounts receivable financing, the business retains ownership of the invoices. In contrast, factoring involves selling the invoices to the factoring company.

• Risk of Bad Debt: With accounts receivable financing, the business bears the risk of bad debt. The factoring company assumes this risk, especially in non-recourse factoring arrangements.

• Fees: Accounts receivable financing typically involves interest rates and fees, similar to a traditional loan. On the other hand, factoring involves a factoring fee, which is the cost of the service the factoring company provides.

 

 

Both options have advantages and can be suitable depending on the specific needs and circumstances of the business. Understanding these differences can help businesses choose the right financing solution to manage their cash flow effectively.

 

 

Choosing a Factoring Company

 

 

Selecting the right factoring company is crucial for businesses looking to leverage accounts receivable factoring.

 

Here are some key factors to consider:

 

 

• Reputation: Research the factoring company’s reputation by reading online reviews and asking for references from other businesses that have used their services. A reputable company will have a track record of reliability and customer satisfaction.

• Fees: Compare the fees charged by different factoring companies. Ensure you understand all the costs involved, including the factoring fee, which is the fee charged for their services. Some companies may have hidden fees, so reading the fine print is essential.

• Advance Rate: Check the advance rate offered by the factoring company. This is the percentage of the invoice value that they will advance to you upfront. Higher advance rates can provide more immediate cash flow.

• Factoring Fee: Evaluate the factoring fee, which can vary between companies. This fee is typically a percentage of the invoice value and can impact the overall cost of the financing.

• Contract Terms: Understand the contract terms, including the length of the contract and any penalties for early termination. Ensure the terms are flexible and align with your business needs.

By carefully considering these factors, businesses can choose a factoring company that offers favorable terms and reliable service, helping them to manage their cash flow more effectively.

 

  

Case Study: Benefits of Accounts Receivable Factoring  

 

 Overcoming Growth Constraints

 

A  Toronto-based IT services company, was growing rapidly with contracts from several major corporations. However, their 45-90 day payment terms created severe cash flow constraints, limiting their ability to hire new staff and take on additional projects.

 

After implementing accounts receivable factoring, the company received 85% of their invoice values within 24 hours of submission. This immediate capital allowed them to:

• Hire six additional technicians, increasing service capacity by 40%

• Take on three new enterprise clients they previously couldn't support

• Negotiate better terms with suppliers through prompt payment

• Eliminate $8,500 in monthly credit card interest and late fees

• Focus on service quality rather than constant cash management

 

 

Within six months, the company increased revenue by 62% while maintaining healthy cash reserves. The factoring fees (averaging 2.3% of invoice value) were easily offset by growth opportunities, early vendor payment discounts, and reduced financing costs.

 

Conclusion

 

 

If you want to remove the ' ouch ' from the receivable loan facility (it's not a loan...................) and cover more talking points on how this facility would work for your firm, seek out and speak to a trusted, credible, and experienced Canadian business financing advisor who can assist you with your cash flow needs.

 

FAQ

 

 

How quickly can I receive funding through accounts receivable factoring?

• Most factoring companies provide initial funding within 24-48 hours after approval.

• Subsequent invoices are typically funded within 24 hours

• The setup process usually takes 3-7 business days for new clients

 

 

What percentage of my invoice value will I receive?

• Initial advance rates typically range from 70-90% of invoice face value

• The remaining balance (minus fees) is paid when your customer settles the invoice

• Higher-volume and established clients often qualify for higher advance rates

 

 

Will my customers know I’m using factoring services?

• Notification requirements vary by factoring arrangement

• Non-notification factoring keeps the arrangement confidential

• Notification factoring requires informing customers about payment redirection

 

 

Does my business qualify for accounts receivable factoring?

• B2B companies with creditworthy customers are ideal candidates

• Your business credit is less important than your customers’ payment reliability

• Most industries qualify, though some factors specialize in specific sectors

 

 

What costs are associated with factoring?

• Factoring fees typically range from 1-2% of invoice value

• Fees vary based on invoice volume, customer creditworthiness, and payment terms

• Some factors charge flat rates while others use tiered fee structures

 

 

How does accounts receivable factoring improve my business’s cash flow?

• Converts unpaid invoices into immediate cash (typically within 24 hours)

• Eliminates the waiting period for customer payments

• Creates predictable cash flow patterns

• Allows for meeting payroll and critical expenses on time

• Provides capital for taking advantage of vendor discounts

 

 

What advantages does factoring offer over traditional bank loans?

• Approval based on customer creditworthiness rather than your business credit

• No new debt added to your balance sheet

• Scales naturally with your business growth

• No collateral requirements beyond the invoices themselves

• Faster approval and funding process than traditional loans

 

 

Can factoring help my business during seasonal fluctuations?

• Provides extra capital during peak production periods

• Smooths cash flow during slow seasons

• Allows for inventory build-up before busy seasons

• Helps maintain consistent operations despite revenue fluctuations

• Enables strategic planning rather than reactive decision-making

 

 

How might accounts receivable factoring impact my customer relationships?

• Professional factors often improve collection processes

• Options for non-notification factoring maintain relationship privacy

• Can actually improve service by solving cash flow constraints

• May reduce payment-related friction with late-paying customers

• Provides objective third-party management of accounts receivable

 

 

What types of businesses benefit most from accounts receivable factoring?

• Companies with large gaps between service delivery and payment

• Businesses with long manufacturing or production cycles

• Rapidly growing companies needing working capital

• Seasonal businesses with fluctuating cash needs

• Companies dealing with customers who demand extended payment terms

 

 

What are the advantages and methodologies of factoring accounts in managing business cash flow?

• Factoring accounts provide quick access to cash by converting unpaid invoices into immediate funds.

• It improves liquidity, enabling businesses to meet urgent financial needs and invest in growth opportunities.

• The methodology involves selling accounts receivable to a factoring company, which advances a percentage of the invoice value.

• This process eliminates the waiting period for customer payments and creates predictable cash flow patterns.

• Factoring accounts can also help businesses take advantage of vendor discounts and manage seasonal cash flow fluctuations effectively.

 

 

 

What’s the difference between accounts receivable factoring and invoice discounting?

• Factoring typically involves selling invoices and transferring collection responsibilities. Invoice factoring is a form of financing that allows businesses to sell their unpaid invoices for cash advances.

• Invoice discounting usually keeps collections in-house and operates more like a loan

• Factoring often includes credit control services while discounting doesn’t

• Customers are typically notified in factoring but not in discounting arrangements

• Factoring provides more comprehensive accounts receivable management

 

 

Is my business too small to qualify for accounts receivable factoring?

• Many factors work with businesses generating as little as $10,000 monthly in invoices.

• Some specialized factors focus exclusively on small business needs

• Minimum requirements vary significantly between factoring companies

• Startup factors exist specifically for new businesses with limited history

• The quality of your customers often matters more than your business size

 

 

How does the accounts receivable factoring process work from start to finish?

• Application and documentation submission (financial statements, A/R aging reports)

• Due diligence and verification of invoices by the factor

• Initial funding (typically 70-90% of invoice value)

• Factor manages collections from your customers

• Remainder paid to you (minus fees) when customer pays the factor

 

 

Will using factoring services affect my business credit score?

• Factoring is not a loan, so it doesn’t create new debt obligations

• May actually improve your credit by enabling on-time vendor payments

• Provides working capital without increasing debt-to-income ratios

• Some factors report positive payment experiences to credit bureaus

• Helps avoid late payments that could negatively impact credit scores

 

 

Does accounts receivable factoring work for service-based businesses?

• Service businesses with verified completion documentation qualify

• Professional services (consulting, IT, staffing) commonly use factoring

• Service invoices must be for completed work, not future services

• Customer acceptance documentation is typically required

• Many factors specialize in specific service industries

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How does the factoring company evaluate which invoices to purchase?

• Assessment of your customers' creditworthiness and payment history

• Verification that goods or services were properly delivered and accepted

• Evaluation of invoice documentation completeness

• Analysis of any potential disputes or reasons for non-payment

• Consideration of invoice aging and payment terms

 

 

What happens if my customer doesn't pay the factoring company?

• Depends on whether you have recourse or non-recourse factoring

• With recourse factoring, you're ultimately responsible for repayment

• Non-recourse factoring protects against customer bankruptcy or insolvency

• Most factors work diligently to collect before seeking recourse

• Collection policies and timeframes vary by factoring agreement

 

 

What documentation do I need to start factoring my accounts receivable?

• Business registration and organizational documents

• Recent financial statements or tax returns

• Complete accounts receivable aging report

• Sample invoices and customer list

• Contracts or service agreements with customers

• Bank statements (typically last 3-6 months)