Don’t Fear Factors
Understand factoring to ensure a steady cash flow
By Timothy D. Brady
Factoring. The word brings fear to the minds of many a small trucking company’s staff and any owner-operator with his own authority. Since working with a factoring company means trusting a third party to handle invoices and manage accounts receivable, that concern is understandable.
Most financial transactions take place between two parties. Factoring involves three: the debtor (the shipping company or broker), the creditor or invoice holder (the trucker or carrier) and the invoice buyer (the factor). That three-way partnership can work to everyone’s advantage.
When you factor, you sell your unpaid invoices to a factoring company at a discount. You get cash in hand, rather than waiting the standard 15-30 days for a shipper to send payment after a load is delivered. Meanwhile the factoring company waits for payment from the shipper, and collects the full fee. So you get the cash you need to continue hauling for other shippers and brokers. The shipper has a reasonable amount of time to pay its invoice. And the factoring company takes the difference between the full invoice and the price paid for the invoices as its fee. Fees are based on the risk taken by the factor in collecting its money from the shipper or broker.
Small motor carriers and owner-operators often overlook the need for establishing a cash flow and reinvestment process, focusing on finding jobs and collecting payment only. However, cash flow is the most important part of your operation. Without cash, you don’t function. Fuel can’t be purchased, labor isn’t paid, repairs and maintenance are left undone and the carrier eventually dies.
Filling a need
Every start-up carrier and any growing trucking company will experience a cash flow deficit. In your business plan and your day-to-day strategic plan, you must have an accounts receivable management system in place. Factoring is one of the major components of that system.
A factoring company is more than a cash provider, it’s also your credit checker. A quality factoring company knows the creditworthiness of current or potential shippers or brokers. It can tell you what amount a customer can afford to owe you, or if that shipper needs to become a Freight On Board (FOB) or Collect On Delivery (COD) customer — or even if you shouldn’t haul the load at all. Used correctly, a factor protects your company from hauling a load for which you’ll never be paid.
Now with all this said, as in any industry, there are some bad apples. Beware of factoring companies with but one goal — to get as much money as possible out of your pocket in 14 months (the average length of time most start-up trucking companies last). Unscrupulous factoring companies will tie you up contractually, so there is no escape until you’ve failed.
You need an accounts receivable collection company that gives you flexible and effective programs to provide you assistance in a number of areas. It should help you save for lean times and set funds aside to build a reserve of capital. It should help you get your hands on cash quickly when needed. And ultimately, the goal should be getting your company self-capitalized, reinvesting your profits to the point that you no longer need a factoring company.
You also need a partner that doesn’t charge unreasonable fees, penalties or contracts in helping you manage your cash flow. Avoid set-up fees, overnight delivery fees, bank wire charges, long-term contracts and high factoring costs.
You work hard and many long hours for your money; be sure you sign with a company that has your best interests in mind, and will work with you every day to achieve your financial goals. Read and understand any factoring agreement you sign. Know how and when you can terminate a factoring agreement. And always seek legal counsel before signing any agreement. Don’t sign until you understand it completely.
Finally, choose a factor long before you need one. Waiting until you’re in a cash crunch emergency is not the time to start your search.
Know Your Factors
In recourse factoring, the carrier accepts the full risk if a purchased invoice goes unpaid, and is responsible for collection after a certain period, usually 60 days.
The factor has the legal means to make the trucker pay the bad debt. Recourse is usually used by larger carriers or brokers.
Primarily small carriers who may not have the money in reserve to cover a bad debt use non-recourse factoring. The fees charged by the factor are higher, but it relieves the trucker from financial obligation if the purchased invoice goes unpaid.