Temporary staffing agencies provide staffing solutions to other companies, often sending workers on assignment and waiting weeks or months to receive payment for their services. This delay in payment lengthens the company’s cash flow cycle and can lead to significant liquidity issues. Staffing firms must continue paying their employees weekly or biweekly, covering operational expenses, and investing in growth opportunities, all while navigating the gap between expenses and revenue. One solution to this persistent cash flow gap is accounts receivable (AR) factoring.
The Cash Flow Problem in the Staffing Industry
In a typical staffing business model, a company provides a worker to a client and invoices that client for the hours worked. While the staffing company may pay its workers promptly (within days or a couple of weeks), clients often take 30, 60, or even 90 days to pay their invoices. This mismatch between outgoing and incoming cash creates a liquidity gap.
Staffing agencies face other financial pressures as well, especially in the present economic conditions where staffing as an industry is facing challenges. Less demand means that the staffing company may need to downsize or reevaluate their fixed costs.
But even in a growing company, cash flow challenges can arise. Staffing companies may need to hire more personnel and potentially increase payroll costs without receiving immediate payment from clients. Operating expenses, such as recruitment, onboarding, insurance, taxes, and administrative costs and technology will also continue rising. Even growing and highly profitable staffing companies may find themselves struggling to maintain steady cash flow to cover these demands.
How Accounts Receivable Factoring Works
Accounts receivable factoring is a form of financing that helps companies bridge the gap between payroll expenses and incoming revenue. With factoring, a staffing company sells its outstanding invoices (accounts receivable) to a factoring company at a discount. Here’s how it works:
- The staffing company performs the job and invoices their customer
- The staffing company sells the open receivable (outstanding invoice) to a factoring company
- Upon purchasing the invoice, the factoring company advances a percentage of the invoice value (usually around 80-90%) to the staffing agency.
- The factor then waits for the staffing company’s original customer to pay. Once the customer pays the invoice, the factor remits the remaining balance, minus a small fee, to the staffing company.
For example, if a staffing agency invoices their customer $100,000 and sells this invoice to a factor, the factor may advance $90,000 immediately. Once the customer pays the $100,000 in full, the factor will release the remaining $10,000, minus their service fee, which typically falls between 2-5%.
This solution addresses the core issue of cash flow inconsistency. Instead of waiting for clients to pay invoices on their terms, staffing companies can access most of the money upfront, ensuring they can meet payroll and cover operational needs.
Benefits of AR Factoring for Temp Staffing Companies
Improved Cash Flow
The most significant benefit is immediate access to cash. The staffing company no longer has to wait 30, 60, or 90 days, but can receive payment the day that they invoice. This liquidity enables staffing companies to meet payroll obligations, hire new personnel, cover day-to-day expenses or even expand their business without the constraint of waiting for slow-paying customers.
No Additional Debt
Unlike traditional loans or lines of credit, AR factoring is not debt. The legal structure of a factoring agreement is a purchase/sale. So instead of borrowing against collateral, a staffing company is simply selling a financial asset (invoices or receivables) at a discount in exchange for immediate cash. Think of it like selling property or equipment. This legal structure means that the liabilities side of the balance sheet is not affected—it’s just a move from accounts receivable to cash.
Different Credit Requirements
Since factoring is distinct from lending, financial institutions underwrite factoring deals differently. A loan looks at the staffing company’s cash flow and assets to determine whether credit will be given. A factoring company largely depends on the creditworthiness of a staffing company’s customers. This means that a staffing company running a lean operation with minimal hard assets may still be able to access the working capital necessary to continue operating and growing.
Flexible Funding
Factoring grows with your business. The more invoices a staffing company generates, the more working capital they can access through factoring. Factoring companies may still have facility limits depending on the financial institution, but as long as your customers are credible and pay their bills, it can be far easier to grow with a factoring company compared to traditional financing opens, such as lines of credit. This flexibility supports the growth of the business, making it ideal for staffing companies expanding rapidly.
Outsourced Collections
Most factoring companies will handle a portion of the collections process for their staffing clients, which gets into the difference between recourse and non-recourse factoring. Most factoring companies reserve the right to return bad debt if there is a problem, or the customer refuses to pay. Until that point, however, the factoring company largely oversees payment collections. This relieves staffing agencies from some of the burden of following up on overdue invoices and frees up time for other core business activities.
Other Cash Flow Solutions for Staffing Companies
While accounts receivable factoring can be an effective solution for temp staffing companies, it’s not the only strategy to improve cash flow. Other options include:
Negotiating Better Payment Terms
One of the simplest strategies is to negotiate faster payment terms with clients. This may require offering a small discount for early payment. This would eat into profit margins, but is far better than the alternative of not meeting payroll on time or skipping other bills. It’s important to note that factoring is functionally similar to a quick pay discount, at a comparable cost. Instead of relying on customers to take advantage of the discount, a staffing company can rely on a factor to purchase the receivable.
Alternatively, requiring a partial upfront payment before delivering staffing services may be an option to minimize the cash flow gap.
Asset-Based Lending
Asset-Based Lending (or ABL) is similar to factoring in the sense that the company’s receivables are the source of capital. The difference lies in the legal structure of the contract. Invoice factoring is the sale of a financial asset (accounts receivable) whereas invoice financing uses that financial asset as collateral for a loan. In short, invoice financing allows staffing companies to borrow against unpaid invoices, thus they retain their ownership of the receivable and continue to manage collections.
It’s important to note, however, that Asset Based Lending is a lending agreement, which means that it will add debt to the balance sheet and may have more stringent credit requirements with lower advance rates.
Traditional Lending
Some staffing agencies may qualify for traditional business loans or lines of credit. If a staffing company can qualify for a line of credit, that will typically be more cost effective than factoring. However, it’s important to note that a traditional bank line of credit will normally be smaller than a factoring facility. Additionally, these options come with interest rates and repayment terms that add debt to the balance sheet.
Expense Management
Effective expense management can also help staffing agencies maintain healthy cash flow. By carefully controlling costs, streamlining operations, and investing in technology that reduces overhead, staffing companies can reduce the strain on their cash reserves.
Conclusion
Accounts receivable factoring is a powerful tool for temp staffing companies to improve cash flow and maintain stability as they navigate the gap between expenses and revenue. By converting unpaid invoices into cash, staffing agencies can cover payroll, meet operational costs, and focus on growth.
While factoring may be an attractive option for many staffing firms, it’s important to consider other strategies, such as Asset Based Lending, traditional lending, and negotiating payment terms. Each business must assess its needs and choose the most effective way to optimize cash flow and sustain long-term success.
