As a business, if you’re not growing, you’re not thriving. Competition is always around the corner, and inflation is always gnawing at the bottom line. Effectively leveraging all the growth tools at your disposal is crucial. Today, we will consider the relationship between invoice factoring and nimble cash flow management, and how factoring can be a vital tool in your strategic growth arsenal.
What is Invoice Factoring?
Invoice factoring, in its simplest form, is the sale of outstanding invoices (accounts receivable) at a discount to a financial institution (factor). In a sense, this process liquidates current assets to free up cash. In a true factoring relationship, you sell your accounts receivable at a discount in order to receive your cash the day you invoice, removing the burden (and cost) of carrying accounts receivable for 30, 60, or even 120 days – similar to a quick pay discount.
Although factoring is a well-established international industry, many in the United States consider it a last resort for struggling companies. While it’s true, factoring can be a good last resort, that does not preclude it from being a powerful growth tool. Strong and struggling businesses alike need steady cash flow, and that’s what factoring offers.
How Invoice Factoring can Support Growth
Factoring speeds up the cash flow cycle, giving a business access to cash the day they invoice. Factoring alone cannot be the driving force behind a business’ success (that’s where vision and strategy come in). However, it can provide financial flexibility to support an effective growth strategy. Think of factoring as a key to give your business access to cash. The key is only useful once it opens the door, and the cash behind the door is only useful if you can leverage it effectively.
Organic Growth
One of our former clients, an installation contractor in the communications industry, leveraged factoring to support their organic growth strategy. After landing a large contract with a national provider, the company adopted factoring to boost their working capital in order to employ additional personnel to manage the additional work. By leveraging Flexent, our client showed substantial growth. Eventually, the owners received an excellent offer from a large competitor and opted to sell the company.
Another client in the audio-visual technology industry faced rising consumer demand, but could not keep up with the costs of scaling with their vendors. By leveraging factoring, converting their receivables to cash, our client supported their expanding customer base without being choked by suppliers.
Support an Expanding Customer Base
An expanding customer base can have a plethora of consequences besides increased revenue. It could require you to hire more staff, as in the contractor case mentioned above, which increases your cost of labor (notwithstanding the costs of finding that new talent). For manufacturing companies, increasing demand could outstrip production capacity. This leads to two costly options: building new facilities or passing up on opportunities.
Both of our clients’ stories illustrate that high growth (15% or more annually) requires sufficient working capital to keep up the pace. Whether that growth is caused by one large contract, or a steady increase in demand, the same need arises: working capital. Entering a high growth phase without proper capitalization can lead to collapse, especially for startups and businesses without tangible assets to lean on.
Attract More Business
While the client mentioned above landed their large contract before leveraging factoring, not every business is so fortunate. Negotiating payment terms and settling contracts with new customers can be strenuous, and balancing customer expectations with your bottom line can be like walking a tightrope. A company leveraging factoring before pursuing a large deal could potentially present a more attractive proposal. Factoring cuts out the wait, which allows a company to either offer more attractive payment terms or be more flexible in accepting the payment terms requested by their customer. This can remove some of the friction when presenting a deal, and could help a company organically attract more customers. It effectively puts your business on a cash basis, allowing you to be proactive in managing your company, rather than reactive.
Growth by Acquisition
While the client mentioned above leveraged factoring to grow and sell to a larger competitor, some companies have different goals. One of our large staffing partners has grown to where they could operate effectively without depending on factoring. Yet, they choose to continue their relationship because of increased flexibility.
Positioning for Acquisition
Rather than allowing millions of dollars to sit idle on their balance sheet, our staffing client understands the value of cash on hand, ready at a moment’s notice. This positions them well in a turbulent market where opportunities for acquisitions may spring up at any moment. The time required to secure outside capital for acquisition could cause a good deal to slip away. When opportunity strikes, the company with the most cash on hand is best positioned to secure the deal.
Post-Acquisition Stabilization
Post-acquisition stabilization is imperative. Costs can mount up quickly from every direction. Merging IT systems, restructuring departments, and rebranding all take time and money. In addition, there may be employee retention and severance costs after the disruption of an acquisition. Overall, maintaining a flexible cash position can make or break a post-acquisition period. The inability to address unforeseen issues as they arise could prove costly from a time, reputational, and monetary perspective.
Competitive Advantage
All of this comes down to the idea of cash on hand as a competitive advantage. While all the cash in the world is not a silver bullet for executing an effective strategy, it is without a doubt one of the most influential factors that can differentiate between a flourishing business and a stagnate one. Cash on hand can better position a company to attract more customers, support increasing demand, and consider competitor acquisition. Without adequate cash flow, a business could find itself struggling to pay vendors, passing up on opportunities, or missing those opportunities altogether.
Why choose Factoring over Lending?
While this question could be answered in a whole series of articles, the short answer is that sometimes factoring is the best option, and sometimes lending is the best option. Which to choose depends on your business model, your balance sheet, your growth curve and other factors. If your business is growing at over 15% annually, under normal circumstances, you will quickly outstrip your line of credit, making factoring one of your only options if you want to keep up the pace. On the flip side, if you don’t carry accounts receivable, or you offer services directly to consumers, factoring isn’t a good option.
Cost is another consideration. On the surface, factoring is almost always more expensive than lending. This cost barrier could make lending the only viable option for businesses with thin margins. However, it is important to consider the non-monetary costs of leveraging the wrong tool for the job. A ratchet and a hammer serve different purposes. Though one may be more expensive on the surface, the cost of having the wrong tool for the job often outweighs the initial cost of the right tool.
