Just like any type of financing, there are many different ways a factoring line of credit can be set up. A good factor should work with a business to tailor the factoring line of credit to fit the business. If not, neither party wins.

One of the first items to consider is if the debt will be recourse or non-recourse. Both have their advantages and disadvantages which are described more fully below.

RECOURSE FACTORING
Recourse factoring is now the most common type of factoring transaction in the United States. This factoring transaction allows the factor to go back to the seller if payment is not received (normally after a 90 day period). The credit risk does not transfer to the Factor during the recourse factoring process. Normally, in the event of non-payment by the customer, the seller must buy back the invoice with another invoice (credit worthy).

Recourse factoring is typically the lowest cost for the seller because the risk for the factor on the funding transaction is lower.

NON RECOURSE FACTORING
Non recourse factoring puts the risk of non-payment fully on the factor. If the customer does not pay the invoice, it's the factors problem to deal with and they cannot seek payment from the seller. This often seems like a great way to go, but the factor will only purchase solid credit worthy invoices and often turns away average credit quality customers. The cost is typically higher with this factoring process as the factor assumes greater risk.

This is a question asked by most business owners with growth potential that are considering factoring. So the real question is: Can you afford to stop taking on new business? Most successful entrepreneurs will look at the potential future sales opportunities that factoring can bring to the table.

For example, if all your customers paid in one day, how would your business change? Could you receive supplier discounts by paying vendors faster? Could you add additional sales by offering flexible payment terms? The bottom line is that every business is different, but in most cases factoring will improve cash flow, which typically helps all companies perform better.

Let's examine the last and most important of the 5 C's of credit - Character.

CHARACTER (INTEGRITY) deserves more scrutiny from lenders, as it focuses on the borrower's willingness to repay the loan. THUS it deserves the most weight!

Personal credit score and background check

• It’s not hard to understand why investors want to invest with those who possess impeccable references and credentials.  This is where the character of the loan applicant comes in to play.
• While the character card can be challenging to assess, a bank will carefully review business and personal credit reports, as well as communicate with vendors regarding a business owner’s dealings with them. 
• Owners need to demonstrate that they are indeed effective leaders and can conduct themselves professionally in challenging times. 
• Securing a business loan from a bank is based on trust, to a large extent.  Banks need to know that a business owner will act in good faith at all times to honor any commitments.

First, what is a UCC1? Under the provisions of state Universal Commercial Code (“UCC”) statutes, when personal property (equipment, inventory, and other tangible assets of a business) are used as collateral for borrowing, a UCC-1 statement is prepared and filed. This process is also called "perfecting the security interest" in the property, and this type of loan is a secured loan.

The filing of a UCC1 creates a lien against the property, so the borrower may not dispose of the property without paying off the debt.

Second, why does a lender file a UCC1? The purpose of filing a financing statement is to put subsequent creditors on notice that the debtor’s property is encumbered.  The first lender to record a UCC1 lien takes priority, which means the lender is the first entity to be paid if the assets if the business have to be liquidated. 

Early this month, the National Federation of Independent Business released another dismal monthly report on small business hiring. Many of the owners surveyed see weak demand and remain fearful about the future. Don't expect them to be leading the nation into recovery anytime soon.

But there's more to the story of the small business credit drought than overly nervous bankers. Many people involved in getting money to small businesses, from venture capitalists to nonprofit lenders, say the small business financing system remains in disarray nearly three years after the start of the recession.

As traditional bank lending languishes, credit cards—a central facet of small business financing in recent years—have become a much less reliable and costlier source of both startup and operating capital. Venture capitalists, too, have pulled back sharply, as the underlying economics of their business have changed.

Meanwhile, a growing number of alternative lenders are stepping into the gaps left by established players.

CREDIT CARDS: Changing rules for borrowers
Credit cards have quietly grown into the central piece of the small business financing system. As bank loans became harder to come by and the paperwork more demanding, business owners put their debt on their cards, sometimes at rates that would make consumers' eyes pop.

A survey by the Washington, D.C.-based National Small Business Association found that among companies with fewer than 500 employees, 34% carried more than a quarter of the company's overall debt load on a credit card.

More than 70% of owners with a card used for business expenses reported paying interest of more than 10%.

BANKS: A long, slow climb back to normalcy
At first glance, small business banking seems to offer an opportunity for healthy banks. The financial crisis decimated longtime small business lenders like CIT, but left other stalwarts like Wells Fargo standing.

The politicians certainly want banks to jump back into the Main Street lending business. Under political pressure, all of the major banks committed to increasing their small business lending this year—Wells Fargo's was up by 30% in the second quarter nationwide, compared with the year-earlier period; J.P. Morgan Chase's was up 37%; Citibank and Bank of America say their small business lending is up, too.

The problem is that everyone is coming off such low numbers from 2008 and 2009 that the increases are much smaller than they appear.

The return to normalcy is likely to be very slow, because of the hangover from the financial crisis.

ALTERNATIVE LENDERS: Lending more
Where banks are hesitant to step, alternative lenders are wading in. While the doors alternative lenders are open wider to small businesses than the doors at banks are it's important to note that they also charge higher interest rates. The higher rates are based on the higher risk and higher administrative cost to manage loans. For many businesses, without access to alternative lenders the businesses would have to shut their doors. So while the cost if higher, it allows businesses with higher margins to take advantage of new business opportunities and to weather this economic storm.

If you are looking for an alternative lender, check out www.factors-southwest.com  

As the Senate prepares to consider small business jobs legislation this week, a new report by the U.S. Congress Joint Economic Committee (JEC) shows that lending to small businesses has declined in 2010, small business hiring remains flat and the smallest firms continue to reduce hiring.

"Small businesses have been struggling to get the loans they need to expand and create jobs, as this report shows," said Congresswoman Carolyn B. Maloney, Chair of the JEC. "It is time for Congress to help small businesses get the lending they so desperately need to grow."

The report, entitled "Small Business Employment: Bank Lending Restrains Job Creation," finds that the number of small business loans and the dollar value of these loans are both dropping. The number of loans made to small businesses, which peaked at 27.2 million in the second quarter of 2008, has fallen by over 4.8 million since then, a drop of 17.8 percent. The total value of those loans fell by $60 billion to approximately $650 billion.

The report uses an unpublished data series from the Bureau of Labor Statistics to update a May 2010 JEC report analyzing small business hiring between January 2001 and March 2010. The update, which includes data through May 2010, shows that small business hiring has not started to increase, although larger and mid-sized firms continue to increase hiring.

Other JEC report findings:

The smallest small businesses - those with fewer than 50 employees - continue to see declines in hiring, even as large and mid-sized firms began to increase hiring in mid-2009.

Overall, small business hiring remains well below pre-recession levels. In the years leading up to the recession, small businesses hired an average of 44.4 million people each year. In 2008, small business hiring dropped to 40.6 million, and in 2009, it dropped to 35.5 million workers.

Small businesses, which employ three out of every four workers in the United States, continue to face tight lending standards that are limiting hiring.

Higher credit standards hit small businesses especially hard because small businesses lack other funding sources available to larger companies.

Looking for an asset based lender? Contact www.factors-southwest.com

Factoring is the financial practice of borrowing against a business’ receivables. Factors give companies the ability to tap into capital by advancing on money owed to them. According to an article written by Liza Casabona for WWD, factoring dates “as far back as 4,000 years ago during the reign of Hammurabi, a Mesopotamian king,” however, the “industry’s rise and evolution in the U.S. is more easily traceable through its ties to the textile industry in the 19th and 20th centuries.” Since factoring has such a long history, statistics, probabilities and likelihoods of events happening are common knowledge in the industry. Further, the factoring industry is fraught with fraud and is risky business. Successful factors do their homework; doing background checks, making the calls and verifying the truthfulness of information provided by potential clients. This is done in an effort to calculate risk to determine who to work with and how.

When analyzing a prospective client a factor will hang his or her hat on the credit worthiness of the prospective client’s debtor. While reviewing a debtor list, a factor will check on credit limits extended to them along with their payment history. From a statistics perspective, if the client has a history of paying late (and therefore lower credit limits) the likelihood of them paying their future debts is slim. A factor can eliminate future problems with a client by eliminating those debtors with a poor credit history and a likelihood of defaulting on his or her debt to the client/factor.

With a decent client list to work from the factor takes a step back and digs a little deeper and will review the credit worthiness of the prospective client. The factor will consider the following points:
1. Is the debtor base solid over all?
2. What is the relationship with the prospective client’s vendors, and do they pay them on time?
3. What does their accounts receivable aging look like and what are their collection percentages.

The consideration of the noted points are based on probabilities the likelihood of “X” happening. For instance, if the debtor base is based on a list of weak debtors with one very strong one; what is the likelihood of the company surviving should they lose the business of the large debtor? If the prospective client pays his vendors slowly and or owes a large outstanding amount of money, especially if money is consistently owed to vendors over 90 days, how long will their vendors allow this to happen before cutting him or her off, thereby cutting off the prospective clients potential to continue running his or her business. Conversely while reviewing an AR aging; if a prospective client has customers who consistently are allowed to pay late or if the client is carrying invoices more than 90 days, what is the likelihood of the outstanding payments to be collected/paid.

Given the long history of factoring statistical analysis has shown 90 days is the magical number. When a prospective client fails to collect his or her outstanding receivables in 90 days or under, the likelihood of him or her collecting at all increases. If a prospective client does not pay his or her vendors in 90 days or under they begin to jeopardize their vendor relationships and put his or her company at risk of losing a manufacturing lifeline. Through careful financial analysis and the calculation of gross profit margin, inventory and AR turnover, a factor can mitigate their risk be assessing the likelihood of the company being able to make money using a factor. If the company has sufficient gross profit margin, their inventory turns quickly as a result of consistent sales, and they can collect in a timely manner, the likelihood of a successful client/factor relationship is good and will result in positive growth and profits for both parties.

Most business owners will tell you that it’s still pretty rough-going out there when it comes to obtaining financing. This is true despite improvements in the economy and efforts by the federal government to jump-start business lending among community banks.

In such a tight credit environment, the importance of the role played by asset-based lenders has increased exponentially. Asset-based lenders are vital in the economy right now and many small businesses don’t know where they would be right now without these specialty lenders.

The credit crunch has taken a difficult situation and made it impossible and many banks are referring clients to alternative lenders such as factoring.

Alternative Financing Solutions
Asset-based lenders provide creative business financing solutions for companies that don’t qualify for traditional bank loans and credit lines, whether this is due to their start-up nature, rapid growth, or financial ratios that don’t measure up to a bank’s requirements. These solutions typically include asset-based loans, accounts receivable financing and factoring.

In 2009, factors provided $140 billion in financing, up slightly from the year before, reports the Commercial Finance Association. And total outstanding asset-based loans increased 1.25 percent in the fourth quarter of 2009.

With bank underwriting guidelines getting tighter and tighter, the good news is asset-based lenders are able to plug a pretty big financing gap that exists right now: Businesses in need of critical working capital in this tough environment.

Manufacturers and distributors with creditworthy customers are often good candidates for asset-based loans and factoring because the financing is based on the credit quality of the receivables, not the net worth of the business owner or the historical profitability of the business.

Cash is king and factors are the way to convert receivables to cash fast! 

A Working Capital Boost
Asset-based lenders can also help companies that have bank loans or lines of credit but need additional short-term working capital to take advantage of opportunities, like an unexpected large order. Many banks are willing to allow a factor come in and share the credit risk of a client if it means keeping a good account.

Asset-based lending is often temporary, providing much-needed working capital during a start-up or transition phase until the company has enough financial history or a strong enough balance sheet to become “bankable” (bankable means three-to-five years of financial statements from potential borrowers).

Thus, factors and other asset-based lenders serve a clear need in the marketplace right now.  Many small businesses are taking advantage of these types of financing and are improving their cash flow greatly.