Being a freight broker can be both challenging and extremely rewarding. Filling the role of middleman does have its benefits. For instance, your company can dial into the best freight forwarders and build a vast network of companies, suppliers, partners and creditors, ones you trust completely and ones you know will get the job done. However, there is one business concern that trumps all of these aforementioned benefits. What is that concern you ask? It’s the issue of cash flow and how an uneven cash position can directly impact your operations and increase your financing. After all, as the middleman, you are guaranteed to be lower on the list of priorities. It’s fair to assume that you’ll be one of the last vendors to be paid and this will surely increase your costs of capital. Fortunately, there is a solution and it comes in the form of receivables factoring.
Receivables factoring is one of several financing options that help companies better manage their cash flow. These options have become more popular in today’s economy. Why? Well, despite very competitive interest rates, today’s freight brokers are unable to benefit from this low cost of capital. This is because large banks and credit unions are still reluctant to advance smaller enterprises money to finance operations. This lack of credit is further impacted by customer payment delays, ones that further increase a company’s financing and ones that negatively impact cash flow. This is why a number of enterprises are looking to their assets in order to secure the capital needed to run their business. Receivables factoring is one such asset-based solution.
So what are the challenges of being a freight broker? First, you must play the role of third-party intermediary, one who is able to manage freight for all parties concerned and one that can find a happy medium between on time deliveries and late arrivals. Managing multiple carriers is never easy and it’s a process that puts your company right in the middle of the action. Second, while you don’t act as a carrier, you must still work and manage multiple carriers and other brokers, all with the intention of managing the shipment and securing its arrival. After all, your customers are looking for a full-service solution. They need you to handle the entire shipment. Third, while your company isn’t legally liable for loss or damage, you are still held to a high degree of service as your company is ultimately responsible for keeping all parties satisfied.
Finally, while you can’t issue your own bill of lading, you still have to have cargo insurance that covers damage and theft. Contingent cargo insurance is the one that is often the most expensive and most important in protecting your needs. Despite all of these challenges, the one that can easily sink your enterprise is a lack of available credit. Your company needs a positive cash position in order to make sure everything runs smoothly.
So how does conventional financing compare to an asset-based financing solution like receivables factoring? Answering this question comes down to understanding the issues of bank financing in today’s economy. For instance, your company could apply for a business credit line with a bank. However, the decision to lend your company money will be based on your company’s credit rating and history. This means you’ll need to provide copies of your company’s income statement, its cash flow statement and its balance statement. Unfortunately, banks tend to advance a company capital provided they have demonstrated a history of solid performance. Given the current state of the economy, banks are becoming more stringent on advancing capital to small and medium sized businesses, especially ones with poor credit ratings. However, factoring is entirely different and here’s why.
1. Simple Process: The factoring process is very simple and straightforward. Your company uses its receivables as a form of business credit. You essentially sell that receivable to a financing company. In return, the financing company advances you capital in order to run your business. That advance is based on a percentage of your receivable’s total value. Once your customer pays the financing company, the financing company credits your account the difference from the original advance and the final collected amount. You avoid the high costs of financing receivables and no longer have to wait 60, 90 or 120 days to get paid. Instead, you secure the capital you need to run your business and lower your borrowing costs.
2. Criteria for Approval: With factoring, you don’t have to provide any financial statements and you don’t have to concern yourself with your company’s credit rating and history. The receivable factoring company is not concerned with reviewing your three financial statements and they aren’t going to review your company’s financial performance over a three to five year period. Instead, their decision to lend your company money is based on your account debtor’s credit rating and their history of payments. That account debtor is the customer you’ve decided to use factoring with. If your customer pays their invoices, then your company is more than likely to be approved.
3. Receivable Factoring is Very Flexible: With receivables factoring, you can choose which customers to keep in-house and which customers to use factoring with. In essence, you can combine conventional financing methods with alternative financing methods. For instance, you could retain those customers who pay their invoices promptly, while using factoring with other customers who tend to take longer to pay their bills. In both cases, you are able to reduce your costs of financing and lower your borrowing costs.
4. Factoring Reduces Financing Costs: Most importantly, factoring helps you to reduce your own purchasing and management costs by allowing you to prepay other creditors, vendors and partners. Prepayment allows you to reduce your financing across the board and is made possible because of the immediate cash that comes from factoring receivables. Factoring is a simple tool that improves your cash flow, strengthens your cash position and reduces your management costs.
The best way to understand factoring is to understand how a company has to finance its receivables with bank financing. Banks charge a yearly interest rate that can easily be converted into a daily rate. This daily rate is important because it helps companies determine their financing costs on a daily basis across a number of business functions. Regardless of whether a company is financing inventory, financing long-term capital expenditures, or financing its receivables, a company must cover this daily interest rate. When a customer takes too long to pay, the company’s costs increase. Better yet, when a customer refuses to pay, or goes bankrupt, the company’s financing costs increase even further. With conventional financing, the longer it takes a customer to pay their bills, the more expensive it is for the company.
Factoring is entirely different because it defeats this daily cost to borrow money. Instead of waiting for customers to take 60, 90, or even 120 days to pay an invoice, your company gets immediate cash based on a portion of that unpaid invoice’s value. This helps you improve cash flow, reduce your daily costs to borrow money and it allows you to further reduce financing by securing discounts for prepaying your own bills and invoices. Instead of financing receivables for long periods, you get the money you need to run your operations.
As a freight broker, managing multiple carriers is always going to be a difficult task. However, you can make cash flow management a much simpler pursuit. You don’t have to finance your customers’ business, while seeing your own financing costs go through the roof. Instead, you can immediately secure the capital you need to run your operations and lower you overall cost of capital.