Factoring vs Merchant Cash Advance

“A business has to be involving, it has to be fun, and it has to exercise your creative instincts.” – Richard Branson

Few aspects of business will exercise creativity more vigorously than finding the right financial solutions for cash flow challenges. Two of the top options for accessing capital quickly are Factoring and Merchant Cash Advance. So how do you select the one best suited to your needs?

First, it is important to understand the differences between the two methods of funding in order to evaluate the risks along with the benefits. Here’s a look at each option.

Overview

A Merchant Cash Advance is designed primarily for B2C (business to consumer) businesses that engage in credit or debit card sales. This includes most retail operations and many service providers, including consultants. It presents a way for a business with steady credit card sales to access operating cash within a few days, and without the hassle associated with traditional bank financing. As the name suggests, this form of funding is an advance against future credit card sales. The amount of cash that can be accessed is based on looking at the current sales history of the business and calculating how much earnings can be anticipated from future credit card activity.

Factoring, in contrast, is an option targeted more to the B2B (business to business) model, including consultants. It allows a business to convert invoices to working capital as soon as the invoices are issued rather than waiting 30, 60 or even 90 days for customers to pay. In factoring, a company called a “factor” agrees to purchase outstanding invoices at a discount. The factor then becomes responsible for collecting the balance due directly from the customers. This alternative funding option works for any business that collects payment from customers via invoices (accounts receivable).

A main point of difference is that Merchant Cash Advance is based on projections of future sales -sales that haven’t happened yet. Factoring is based on work that has already been performed, and services that have already been delivered.

Qualifying Process

Merchant Cash Advance lenders are interested in the volume of credit card sales for the business, so they want to see documentation of the past sales history in the form of credit card receipts. Relative to a traditional bank lender, this is a simple process that can be executed quickly.

A factoring company is interested in the quality of invoices, and the ability of the customers who owe on the invoice to pay.

Fees

Although fees for a Merchant Cash Advance vary, interest rates can be as high as 30% (or more). There are no fixed rates.

Rates will vary for factoring as well. The standard interest cost for factoring is around 1%-2% per month.[1]

Use of funds

You are free to use the cash provided by Factors or Merchant Cash Advance for any business purpose, from retooling, to training new staff or marketing a new product line.

Repayment

Unlike traditional funding through a bank or credit union, a Merchant Cash Advance is not repaid on a fixed payment schedule over a period of time. Instead, it is repaid daily. A percentage of credit or debit card sales is withheld from each transaction until the amount advanced, plus interest or fees, has been repaid in full.

With factoring, there is no “payback”. The factor collects directly from the entities who owe payment on the invoices. Factoring is a “Get it (the cash) and forget it” transaction.

Regulation

Currently, there are no regulations monitoring the Merchant Cash Advance industry. Merchant account companies have the freedom to charge whatever interest rate their customers agree to. They are also free to add hidden fees and change repayment terms. [2]

Factoring is self-regulating, with individual companies adhering to national and international best practices and professional standards, according to the National Factoring Association. [3]

Risks

With a Merchant Cash Advance, you are betting on an uncertainty—projected sales. If business circumstances change, and sales drop unexpectedly, you still owe the agreed on monthly payment. With factoring, there is minimal risk. The factor is responsible for collecting on the outstanding invoices.

Finding ready cash for business will always be a challenge. Today, with conventional financing models rapidly giving way to newer, bolder ideas for meeting cash flow challenges, the experts at ExpoCredit are ready to introduce you to our factoring programs and alternative funding options, and partner with you to accomplish your business goals.

[1] https://www.businessweek.com/smallbiz/content/jan2009/sb2009018_234392.htm
[2] https://en.wikipedia.org/wiki/Merchant_cash_advance
[3] https://www.bizjournals.com/washington/stories/2010/07/26/story5.html?page=all

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