Sunday, April 29, 2012

Off Balance Sheet Credit Line

Line of credit off the balance sheet.

Is it possible to have a credit line without being listed on the balance sheet as a debt? If a business has invoices, can it draw against the invoices before they are actually collected? Is there a third party that will manage accounts receivable and advance money for those accounts? If a business is unable to obtain a loan or credit line due to less than perfect credit, is there a financial alternative to finance payroll, overhead expenses, rent and business operations? Is there a way a business can extend 30-day terms to customers and still operate with an advance from a third party without creating debt? Is there a line of credit available that doesn't effect the balance sheet?

When a business delivers products and/or services, and an invoice is created, the invoice becomes an asset. A factor can advance money for the invoice. Factoring is a third party funding source willing to step in and finance accounts receivable. A factor is willing to pay an advance against the invoice followed by the remainder amount of the invoice minus a discount.

This process is similar to the way a business receives money for a credit card invoice except factoring involves a second installment as compared to only one installment for payment of credit card invoices. Every time a credit card is being used, the process involves using the basic principles of factoring.

Factoring or invoice financing is not entered on the balance sheet as a debt because it is not a debt but rather the sale of an asset. When a factor advances money against an invoice, he is buying the invoice and taking over the management of that account until it has been paid. Once the client owing on the invoice pays the factor, the factor pays the reserve amount minus a discount.

A company that has less than perfect credit can be eligible for factoring or accounts receivable funding due to the credit worthiness of its customers. Factors count on the credit of companies buying the products and services rather than the business needing to have invoices financed. Therefore, the beneficiary of factoring does not have to have perfect credit.

Factoring is a time-sensitive and need based means of financing a company until being able to qualify for more conventional financing. Most bank loans require collateral including equipment and accounts receivable. Factoring usually only requires a first collateral position on the accounts receivable. However, they do require to be in a first collateral position on the accounts receivable.

When companies have loans at the bank, sometimes it becomes necessary to ask the bank to subordinate liens on the accounts receivable in order for the company to be eligible for accounts receivable financing.

Benefits include an increase in a credit line as the company grows, getting capital immediately, no restrictions on the use of funds, early pay discounts from suppliers for early payment or volume discounts, being able to eliminate early payment discounts to customers thus being able to offset some of the cost of factoring, improving the balance sheet by increasing cash and decreasing accounts receivable, getting strong financial statements and better credit ratings to position the company for bank financing and SBA loans, obtaining free credit screening and monitoring of customers with detailed management reports.

Conventional financing has become more difficult for small to medium size businesses due to tightening of credit restrictions at the banks. Some of the small and medium businesses still have a line of credit but it is not large enough combined with realization of accounts receivable to meet operational needs. Invoice factoring is a way to shorten the gap between the time an invoice is submitted and when it is actually paid.

In an economy where the 30-day invoice cycle is becoming 45- 60 days, particularly when small and medium businesses are invoicing large businesses or the government, would it make sense to find a debt-free alternative way of financing invoices? When a company is growing and needs cash to meet operational needs and to fill new orders, and is unable to obtain necessary cash through conventional loans, the business should seriously consider factoring. Factoring can allow a company to make the transition from negative to positive cash flow situation?

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