The Factor Guru

Tips on accounts receivable financing and business practices.

Posts Tagged prudent monitoring procedures

Using Technology to Stay Informed

Nov 29

Posted by Gen Merritt in Technology | Comments off

As I am sure you will be able to tell, this is a posting yet again on doing your research. That includes the Internet, not just UCCs, judgments and tax lien searches. Internet research is often overlooked, and I think I have figured out why. We all tend to just enter the name of a company in Google or wherever, and either, we get nothing or we end up with too many hits to filter through. Nothing relevant appears to come up in the search. Because of this, the value may seem lost. Why search on the Internet?

And, before I start, yes, I know it shouldn’t come down to having to do this. You should be hopefully talking to your clients on the phone every month and not just communicating by email. Although, I doubt you would be surprised how often we seem to do this anymore… Creating a verbal dialogue and building a relationship can be instrumental in working with your clients.

You may find out more about them and their business through those conversations than you ever would in an email. What is going on in their company? What potential new sales are on the horizon? Are there potential cutbacks that may occur? These issues usually only arise during an actual “old school” conversation, not in an email. Sometimes, talking to the billing personnel or other employees will provide additional insight into the business. Building and maintaining that relationship is important.

Now, combine that information, what you found out by talking with your prospective clients and clients, with the news and research available through the Internet. Go to your clients’ websites every once in awhile or look them up online. You may be surprised at what you find, not just for potential clients in the underwriting process but also for your existing customer base.

After all, it does happen. You have a long term client… you know the one that has been with you for a long time… they tell you everything… why would you search them after all these years? Well, maybe they sold their company and didn’t tell you. Maybe they have litigation going on that you didn’t know about. Yes, I really mean this can happen, does happen, and you may not know. Every few months, it doesn’t hurt to check your clients’ websites and search their company name(s) or owners’ names on the Internet.

So, let’s go back to how to find the value from researching clients online. Why don’t many factors utilize this free tool? It is probably because a lot of people do not know how to research appropriately. Hence: no value.

But, here are some hints that may help overcome that perception so you can see that the value does exist:

Don’t just enter a name. For example, if you just enter the name of the client, ABC Manufacturing Company, you will get some results for everything with ABC and Manufacturing and Company in the name. However, if you wanted to narrow your search down to “ABC Manufacturing Company” (with quotes) then it will pull only those articles where an exact search for “ABC Manufacturing Company” [whatever is in the quoted area] occurs.

Then, if you want to narrow your search even more, you can add on to your search terms with an ‘and’ or a ‘+’ in between the search terms or quoted items (i.e., “ABC Manufacturing Company” and “Fraud,” etc). You never know what you may find, from complaints to litigation.

This works in reverse as well. If you pull up “factoring” and don’t want to see mathematics statistics, then do a search for factoring –math (with a minus sign), and it will eliminate those results.

Be sure to mix it up. Try using states or towns, other terms or owner names to see what additional information is out there. You may also receive different search results depending on if you are using Yahoo or Google as well. Try them both once in awhile.

Please remember that not everything you read on the Internet is true; however, it may give you information that proves to be useful later. You can even find old clients that owe you money still, just by doing your research. There may be a client that closed their business and opened up a new one (maybe even in a different state)… you may be able to find them too! You really can find almost anything on the Internet.

I have always recommended using this tool, along with Pacer or other services that provide background reports on companies and individuals, during the underwriting process for new clients; I should stress that you can use these for existing clients as well as those you are looking to collect out on or during litigation. Occasionally, you can find other customers to notify, alternate locations, or even other companies you did not know existed.

Not to be cliché… using the Internet may actually be like a box of chocolates. After all, you really do never know what you are going to get.

Wishing you success. The Factor Guru.

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Financial Reporting… a telling story…

Oct 13

Posted by Gen Merritt in Operations | No Comments

Ever wonder if you really need to look at financial statements on your clients? Yes, most factors will review the balance sheet and income statements initially, during their due diligence. Most even include financial reporting in their factoring agreements with their clients. Maybe not every factoring company chooses to do this, however, based upon their business model. Some factors focus on small, niche factoring or more collateral-based, hard verification transactions. They may determine that for smaller deals, receiving and reviewing this information is not as important during the initial underwriting process. But, here is the question, assuming you don’t have this type of business model, what about after the deal is funded?

Depending on who you talk to, you may get a different answer… only on those clients that have facilities or fundings over $100,000, over $1,000,000 or more (again, depending on who you ask) or to getting financials on every client either monthly, quarterly or annually. For those that do have certain policies in place, here is my real question: what do you do with them?

Hopefully, this is not just information that is glanced at and put in the client’s file. But, as I have been frequently asked, “What does it matter? Don’t we just need to look if they’re making or losing money?” There is no quick explanation to this question… but the answer itself is easy: No.

For one, many companies today are losing money. Secondly, if you only evaluate financial performance once, you have no trend of data for which to compare the company’s performance. Finally, it is important to compare the client’s data to your data, as the factor. What does this mean? We’ll get there… this article is not about how to read financials, but I did want to take a moment to identify the relevance from reviewing and trending all of this information. Please understand that for most of your clients, it will actually feel like you are just reviewing data and then putting the financials in the client’s file. That’s okay. For many of your client files, this is just a good check to keep you informed of what is occurring in your client’s business.

After all, factors generally evaluate their receivables weekly, review trends monthly, if not more, perform verification and collection calls and other protocols to prevent and manage risk. But, sometimes exceptions occur or complacency arises. Or, for those new to factoring and/or lending, maybe you are not familiar with all the procedures that you may want to have or should have in place for better monitoring accounts receivable and your client’s performance.

So, here is why financial monitoring can be invaluable and the event that sparked this blog.  A friend of mine called the other day to just take a ‘look’ at a company’s financials and to help explain some things to look for when they reviewed the information. We started with using the company’s prior year performance along with their interim financials (balance sheet/income statements). Now, let’s take a look at the summary information: Sales, Margins, Operating Costs and their percentages of Sales. An example is provided below, which is completely arbitrary but gets the point across (I think).

Income Statement

FYE 2008

9/30/09 Interim

Revenues

25,000,000

14,000,000

Avg. Mo. Revenues

2,083,333

1,555,556

Gross Profit

7,500,000

3,000,000

Gross Profit %

30.00%

21.43%

Operating Expenses %

24.00%

25.00%

Net Income after Taxes

1,500,000

-500,000

What can be gleaned from this? The company’s sales have decreased, their margins are down and their operating expenses have pretty much stayed the same… one may want to ask what is going on? Did they lose a big customer? Is there a quality issue? Are their vendors charging them more? Why hasn’t the company also lowered their overhead expenses in relation to their declining revenues? Is the company seasonal? Some would just tell you, “It’s the economy stupid.” These are just some questions for which you may want to find out more, if you don’t already know the answers.

Now, let’s look at the factoring data. During those same periods, this factor had purchased $24mm during 2008 and $17mm through 9/30/09. (And, remember these numbers are not real but exaggerated for illustrative purposes only).

But, wait! Is that right? How could purchased invoices in 2009 exceed the company’s sales?

And, there it is… that ‘light bulb’ moment… need I continue… do I really need to write out what this means…

And, before you say anything, yes, there should have been other signs in the collateral, and yet, sometimes each one of those concerns could have been reasoned away, as they probably occurred gradually, in single occurrences, over time.

Moving on… you may also want to look at certain balance sheet information such as the Accounts Receivable balances. Does their A/R balance correspond to yours for that same time period? In the example above, probably not…

Just think, we haven’t even compared the company’s A/R turnover to the factor’s A/R turnover yet. Can you guess what that information would tell you? Well, to keep this short, we can save that for another time. Just understand that “pre-bill” may be in your future if these numbers are not consistent.

Without over explaining or making this any longer than it already is, I’ll end it here. The point, however, is that checking, reviewing and comparing company financials can be important. It is only an additional tool that factoring companies and lenders rely upon in mitigating risk. But, sometimes these tools can prove to be very telling.

Wishing You Continued Success. The Factor Guru.

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FAQs: Construction Receivables

Aug 22

Posted by Gen Merritt in Operations | No Comments

2ebf976ad673655aFactoring a construction business can pose additional risks. It is important to understand the billing processes and any potential subcontractor liens that may arise and interfere with payments on factored invoices. The discussion below provides some key items to consider, excluding bonded jobs.

The Underlying Agreement. Clients operating in the construction industry may have and typically do have contracts or master servicing agreements for each job being performed. These contracts typically include the work to be done; assignment language; contact information; billing protocols and requirements for payments; subcontractor payment and lien representations, insurance standards, and more…

Each contract should be reviewed, especially if the Client (for this example, a subcontractor on the job) is working on a longer term project wherein they bill monthly (generally on the 20th to 25th day of the month). Although the work has been performed for that month, the entire project has not been completed. So, yes, this would be progressive billing.

Hint: Jobs should be monitored individually, when possible, to follow when the job is completed and that the Client doesn’t invoice more than the contract amount without getting that overage approved in a change order, or in writing.  Especially when amounts billed are greater than the contract amount, change orders should exist. Additional billings that arise due to “verbal” change orders or agreements generally also come with payment problems attached.

Payment Requirements. Contracts may also dictate how the Client should bill invoices and may even include exhibits of specific forms to use for such billing (i.e., AIA forms for Certificate of Payments and Schedule of Values, etc). With these invoices, the Client may need to supply their customer (the Debtor) a release/lien waiver affirming that all subcontractors used on the project (hired by the Client to do work for them) have been paid.

Subcontractor Payments. Because of how the construction industry operates, another element to consider is where the Client stands in the payment chain; how far are they removed from the ultimate payor (the owner). And, how many other subcontractors have they (the Client) hired to do work for them?  Why does this matter? These subcontractors have rights to monies owed… their rights can supersede that of a factor or lender. They are not the same as suppliers on a manufacturing company’s payables listing.  Don’t think that just because you are funding a subcontractor that you are immune to these issues. Knowing that these subcontractors hired by your Client have been paid may be critical in the collection of receivables.

What happens if one of these subcontractors has not been paid? If a general contractor (the Debtor) hires the Client for a $100,000 contract to provide landscaping work and that Client then orders $20,000 of sod to be delivered to the job site, that sod supplier needs to be paid.  If the Client does not pay the supplier, the supplier may have the right to lien that job thereby affecting payments on that job from the Debtor to the Client.

This means that when the Debtor goes to pay the invoice, they may not do so right away, as they probably would have received a notice of the lien being or to be filed. So, first, that payment is at minimum going to be delayed. Secondly, the Debtor will more than likely make a payment of $20,000 to the supplier and then pay the rest of the monies to the Client (or the factor, as applicable).

This doesn’t sound too bad if the factoring company only has a 65% advance rate. However, what if the amounts owed to the subcontractor/supplier were 40% (or $40,000) and what if the factor had advanced 80% (or $80,000) to the Client. The factor would have advanced $80,000 to the Client and would only receive $60,000 back from the Debtor.

Know the Law. Each state is different but all tend to operate much the same in that if companies have performed work (labor) or delivered materials to or hauled materials from a job site, those companies are to be paid. There are various notice periods for filing liens and requirements to adhere to during this process. You can usually research your state’s lien and bond laws online, or contact your legal counsel for clarification. These differences will dictate notice periods and eligibility. They will also highlight your risks should you be factoring a Client in this industry.

As an example, a fourth tier sub may not have the right to lien a job whereas a second or third sub tier would.  In Texas, certain oilfield services industries may have up to 180 days to file a lien if payment has not occurred, whereas others may only have anywhere up to 90 days, depending on the type of job and where the Client stands in the payment chain. Again, each state may be different.

I know I can go on forever about liens, subcontractors and other nuances and examples within the construction industry… but this is a blog… not a book.

So, to wrap up, I’ll just list a few other items to watch for when factoring construction receivables:

Retainage: this is typically an amount held back (generally 5% to 10%) from each billing until the job has been completed. I mean the entire job… not just your Client’s portion. These amounts tend to take longer to pay or may not be paid depending on if other parties are owed monies, or if additional charges or fees need to be assessed. In some cases where subcontractors have not been paid during the job, these funds will be used to pay for those outstanding amounts. Because of this, many factors or lenders will not allow these invoices to be eligible for purchase.

Mobilization: billings for work ‘to be done’ on a project when no work has actually been done (yet). The Client may bill Mobilization to ‘mobilize’ their crews, purchase supplies, etc. If the factor advances on this type of invoice, it is important to understand that no work has actually been performed, some would argue this is much like purchase order financing. Look at the contract or call the Debtor to see if they will pay for such invoices in the event the project is put on hold or the work never starts.

Until the next time. Wishing You Success. The Factor Guru.

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Factoring and Gambling: Part II

Jul 17

Posted by Gen Merritt in General Information | 1 Comment

820928dbf1b9db54 As a follow up to the Part I weblog from May, here are some other pokerisms (if that is even a word – probably not) that may be useful in your journey as  a factor… or they may just be entertaining. Either works.

* Don’t be a “fish,” otherwise defined as a bad poker player. These fish never truly understand how to play the game; they just keep playing. In  factoring, if you fund enough bad deals or make too many exceptions to the rules that result in losses, you will eventually lose… you may even lose your  business. Good factors know the rules of the game, develop them, and execute them every day. If you are not sure where to seek assistance on the rules,  attend an IFA seminar or call the IFA, an industry consultant or even a friendly competitor for help.

* Don’t throw good money after bad… sometimes, when you have a problem account, you may believe you need to continue providing working capital to the company so they stay in business. After all, if you are short on collateral, how else will you get your money back? This decision is not to be taken lightly. You cannot hope your way out of a deal that has gone bad, as they say.

Do your homework. What is really going on in the client’s business? How can it be corrected? Take your time to identify your exposure and other repayment or collateral options. Understand the inter-workings and financials of the business itself. Will putting more money into the pot really help get your money back?

* Learn from your mistakes… it happens. We can all become complacent in our monitoring protocols with long time clients. We make exceptions to get deals done quickly, or we believe we have covered all of our bases (i.e., seen all the options on the river) during our due diligence… only to find we missed something extremely important (or misread our cards).

However, we can only get better if we actually learn from those mistakes. Go through your history of losses. Make a list and refer back to it. What were the reasons those losses occurred? What were the exceptions, if any, you made to get the deal done? What were the common characteristics between the various transactions? What have you learned from looking at this list?

* What’s that song? “…Know when to fold ‘em. Know when to walk away. Know when to run…“

Did you see the July weblog “Understanding the Story… What If,” a guest blog by Darla Auchinachie? Once in awhile, there is a voice tapping you on the shoulder saying, “Um, perhaps it’s time to leave.” And, sometimes when you listen to this voice, you live to play another day.

* One bad call in judgment can destroy ten good calls. How many deals does it take to make up for a loss on one bad deal? Do the math…

* At some point, you will lose. You really can’t win them all. Some elements are out of your control. Structuring deals appropriately up front will however help mitigate losses significantly. Ask yourself on every transaction you review, “Can I get out tomorrow?” If not, why not? What can be done differently should you need to collect out of the deal?

* Being aggressive can be a good thing. When a deal goes awry, it is better to act and act quickly. In factoring, the entire client receivable base can turn over in 45 days. The longer you wait, the further you may be from your collateral. And, don’t forget that the longer an invoice stays open, the harder it is to collect.

Good luck. Wishing You Success in the Game. The Factor Guru.

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Understanding the Story… “What If” a guest blog by Darla Auchinachie

Jul 9

Posted by Darla in Underwriting | 1 Comment

I recently became involved in underwriting an application for a factoring facility that brought me back to a session I co-instructed at the 2004 IFA Annual Factoring Conference. The title for that session: “Understanding the Paper you are Buying.” One of the ideas presented focused on how cutting corners in the due diligence process may lead to disastrous results. That was true five years ago, and it is even more so today.

It’s been said that it is very difficult to correct a bad underwriting decision, and anyone that has been tasked with a client “work-out” can echo that sentiment. The role of a factoring credit underwriter is to try to accurately predict that if a prospect is accepted for financing then that relationship will perform as expected – and to structure the facility in such a way that monitoring that performance can be effective. After the underwriter has recommended the prospect for financing, it becomes operation’s responsibility to employ the necessary procedures to protect and preserve the factor’s capital.

When you think about it, initial underwriting is a really tough job; even after you get past all the obstacles we understand academically, you still have to rely upon what your intuition tells you. And, after that, you have to determine if you are being too conservative or not conservative enough.

So, back to my original story about this application package, it was neat… too neat. Robust financials, plausible agings, strong guarantors, dare I say it – a factor’s dream. Of course there were issues a seasoned factor would spot such as the nature of the receivables having a “little hair on them” and the customers, while nicely spread out and quasi-governmental, still thin on the credit side. Of particular interest was the volume – it was substantial for the small non-traditional market. Who wouldn’t love funding a new prospect with a receivable base of several million, especially if it could be done for a desirable rate?

Personally, I wasn’t comfortable with the deal. It wasn’t necessarily the receivables themselves; it was more about the “Conditions” of the deal – Conditions is one of those “C’s” of credit we should never forget when underwriting. You see, the company had experienced tremendous growth in the past fiscal year, and by tremendous growth, I mean well over a 150% increase in revenues. But wait…

In this economy today, what industry could possibly support that kind of growth? I’m not talking about a startup company whose revenues might be expected to grow at a steep pace. This was a company that had been around for decades and had never experienced such a sharp increase in sales.

Another interesting Condition was that the prospect already had a factor funding their receivables. Usually this is not a cause for concern. In fact, it’s quite common to see an applicant who is already factoring. As part of the initial qualifying stage, the business development officer contacted the current factor and was given a glowing recommendation: the factor loved their client, had experienced zero dilution over the course of a multi-year relationship and wished they could keep funding the client. It was the client’s growth that had outstripped the factor’s ability to fund.

However, here is where the story becomes a little more interesting… 442f0b535d06bd4e2

The prospect urged the incoming factor to “rush” funding. They needed the capital to continue operating during this explosive growth cycle. One should ask, “Why?”

Well, common sense and experience were telling me something was not quite right: the recent growth, the current factor volunteering there had never been any dilution over the course of a long funding relationship, and now the company needed to rush the initial funding for a payoff. Why was a participation arrangement not being considered or requested?

I know many factoring companies and believe that most have very capable and honest folks, but this factor in particular was relatively new to the industry and now had a several million dollar deal that had outgrown them. I’d never met this factor at any industry event; I even called other factors to see if they had any experience or knowledge of this financial source – no one did. Because of this, I recommended that my client (remember the one who originally engaged me to review the application) fully and strongly verify the receivable base before getting too far down the road. My client asked me, “Why shouldn’t we rely upon the existing factor’s story and records?”. And, this is what brought me back to that class in 2004…

It was after that session when a factor approached me stating they wished they would have attended this course before taking on a rather large client. They had relied upon another factor’s story, similar to the one described above. To their detriment, they funded the prospect’s receivables. You see, the incoming factor didn’t have a large enough staff to fully verify the invoices, and the payoff was also a “rush” situation. As it turned out, there was not enough true collateral. The incoming factor had wanted to appease the client and get the deal done. They had “assumed” the information received from the prior factor was accurate. Therefore, the incoming factor only made a few random calls instead of following their normal procedure of verifying a large percentage of the collateral.

I know several factors who would say they would never do such a thing: fund a large client without full verification – but what about those newer factoring companies? We’ve seen the number of factors steadily increasing over the years, and yet many of these businesses may not survive. I think this story provides a good reason why newer factoring companies tend to fail. They do not understand (or believe) that fraud exists, that there are people waiting for opportunities to intentionally defraud factors or lenders out of their capital. Further, they believe they can correct their cutting corners on the initial funding by performing post funding verifications. Really? I think if this is the plan, you will just know sooner that you have a fraud. Once the money is sent… it may really be gone.

Yes, it is important to talk to the prior factor and hear their story. However, you should not solely rely on what they say… especially where your interests are not the same. Perform your own due diligence.

Newer factors might not have experienced a fraud; they may assume the current factor has strong procedures in place that mirror their own. But, what if the current factor hasn’t figured out what they have on the books isn’t any good? Or, what if the current factor knows but is hoping someone takes them out of the deal? And then, what if the incoming factor just doesn’t have sufficient resources or time to verify the accounts? Well, that sounds like just too many “What if’s?”

Be aware of what your intuition tells you. Or as my friends in Texas say, “Go with your gut feel.” Business is tough for everyone, and we all want to fund new deals. But, just because you catch a nice fish on your line doesn’t mean you should take it home and fry it up – sometimes catch and release may be better off for the longevity of your factoring company.

Oh, and just in case you were wondering about that deal I was engaged to review… the factor did start calling to verify invoices before they funded even with the glowing recommendation from the prior factor. The result: Declined. While I won’t go into great detail, remember that a factor’s best friend can be the Internet and that searches and reverse phone number searches on customers can be easily checked.

Until the next time…

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What Trends May Signal

May 28

Posted by Gen Merritt in Uncategorized | 1 Comment

Many factoring companies utilize Trend Cards to help review accounts on a monthly basis. These management reports are a reflection of what has already occurred within a Client’s performance. Therefore, no surprises should exist as the daily account management should pick up potential concerns and changes… as they occur.

Trend Cards, however, can help identify Red Flags as a whole and can provide a tool in monitoring accounts. Most Trend Cards include a 12-month period reflected on a monthly basis showing aging trends, dilution, receivable turnover, or other data points you want to measure. These reports can be manually generated in Excel or Access; some factoring software systems may include automated reporting for this information as well.

When reviewing trends, it is important to watch for anomalies. Below are some key data points you may want to monitor more readily:

PURCHASES. For example, monthly Purchases may illustrate sudden increases or decreases in sales, which may be attributed to seasonality or even a loss of customers because of quality issues. Where sales are suddenly increasing, this may be because of recent large orders or possibly even falsification of invoices. If a Client has no Purchases during a month, this could be a Red Flag.

COLLECTIONS. Changes in Collections can signify other Red Flags. You may want to ask yourself: Are there concerns within the verification or collection calls lately? Are all the checks going to your lockbox? Are customers paying more slowly? Is this a sign of potential pre-billing? Look for consistency in the relationship between Purchases and Collections. No Collections in the last month or erratic relationships between the Purchases and Collections could be a Red Flag.

DILUTION. Dilution changes should be monitored as well. Dilution results from the non-cash deductions to receivables. This is any time an invoice is not paid in full at par (face) value; therefore, reserves are applied for discounts, short pays, charge backs, credits, and other non-cash entries. Material increases in Dilution should be addressed.

Changes in dilution may represent a change in the Client’s business or billing practices. Are more invoices being charged off, disputed, or collected by the Client directly? Has the Client grown too quickly or not been on top of billing and collections as tightly? These are questions you may want to get answered.

It is important to note that typically an advance rate is initially set based on the expected Dilution. If over time, a Client’s advance rate stays at 80% but their Dilution increases to 25%, then for a $1,000 invoice, the advance to the Client would be $800 but only $750 would be paid by their customer.

THE AGING. The aging allows you to see how a Client’s typical receivables are spread over time. Watching for anomalies in this spread is important, as an early detection method or as a note to start monitoring a Client more closely.

As you can see, trends are a historical perspective only; however, when reviewed as a whole, these trends may reveal inconsistencies that may need to be addressed. For additional information on this subject, please feel free to email me, or call the International Factoring Association for additional reference contacts.

Wishing you success. The Factor Guru.

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Missing Early Warning Signs May Be Hazardous To Your Business

May 15

Posted by Gen Merritt in Operations | No Comments

 

9f7d7e4213bb1a961Changes in a company’s performance or within their business may help identify Early Warning Signs before a potential problem occurs. Knowing what to watch for can help. Here are a few more signs and ‘changes’ you may want to be on the lookout for…

Management changes or high employee turnover exists: The question to ask is why? Are there other indicators within the company or the company performance? What is the succession plan and can the business operate effectively without that key employee or manager? What affect will their absence have on the business’s ability to provide you information? Is there a problem in the business itself that would cause management or good employees to leave? Will this change affect your collateral position?

Wiring instructions change: When a company becomes overdrawn on their account, garnishments occur, their bank begins paying down other bank debts from funds received, or other changes, the business may establish another banking relationship. Companies do not normally change their operating account without a good reason. And, I have experienced other cases where the company begins asking for checks to be issued instead of their traditional wires. Again, this is a change. Therefore, this could be a red flag as well; where is that money being deposited now anyhow? Do you get bank statements on a regular basis? Is the money staying in the business?

Payment patterns from customers (debtors) change: This may be a sign of credit deterioration in the debtor, pre-billing or overbilling by a Client, etc. When a customer has always paid their invoices at 40 days, there should be a reason that an invoice remains open at 75 days. Has the approval process changed, is there paperwork that is missing to authorize a release of that check, etc. Do you understand the debtors billing and ultimate payment process? Performing verification and collection calls on purchased invoices will help identify potential problems before they occur. One thing to remember: customers (debtors) do not typically change their payment patterns overnight.

Vendors start requiring shorter terms, cash on delivery, or post dated checks: When was the last time you received an updated accounts payable aging? When cash is running tight, companies may rely on their vendors for an additional source of working capital. However, at some point, this money trail could end. Vendors tend to have closer connections with the company and in their industry than you may have; Pay attention when those same vendors suspect financial distress within your Client. (Oh, and, start requesting and reviewing those payable listings if you are not already…).   

If you begin to see one of these situations occurring, this does not mean you need to over-react. However, you do need to act. Understanding the reasons behind these occurrences is essential. You can’t fix what you don’t know.

Identifying Early Warning Signs can help eliminate or mitigate potential losses before they occur. Dealing with concerns quickly can only help your collateral position as a factor. Should an issue exist, more than likely your Client’s business has already been impacted. Don’t let their problems also become hazardous to your business. Watch for Early Warning Signs.  

Wishing You Continued Success. The Factor 

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Early Warning Signs…

May 11

Posted by Gen Merritt in Operations | 1 Comment

e1bd96b3c40e992c1I realize this is out of the segment for my weblog… however, I believe this is a necessary topic to begin yet another subject: Early Warning Signs. Too many times, factoring companies come to the rescue too late. It is better to identify a problem before it actually becomes a problem. With that said, my first example: skipped invoices…

This one is tough if you don’t factor all of a company’s invoices. However, if you are factoring all of the invoices, then sometimes you need to take a closer look. Honestly, this is one of those little things that you may not pay attention to on a day to day basis. Many factors do not. It is something that seems extreme… after all, who can pay attention to everything, right?

Well, I don’t always myself. But, then you hear the story of a factor that purchased invoices wherein the debtor did not pay ultimately because of fraud that may have been recognized if the factor had first noticed the skipped invoices and those payments:

For example, a factoring company purchases invoices numbered ABC1 through ABC10; however, the company and the factor always had a long term relationship. They also had a long standing arrangement wherein the factor no longer called on all the invoices… they [the factor] had complacency in the relationship… the client account always worked well; therefore, why call on every invoice? Why call until the invoices reached the 75 day mark?

Along these lines, the next schedule included invoices ABC15 through ABC 18. Yes, some invoices had been skipped; but, again, everything on the account had worked well to date. The client account and their invoices had run well. The aging trends had deteriorated; but, the client relationship remained intact and encouraged waiting for the invoices to pay… no reason for collection calls to confirm the accuracy of the invoices based on the client history, right?

Unfortunately, the ‘real’ invoices were those with numbers from ABC11 through ABC14. Those invoices submitted prior were invoices submitted to the factor for funding only… they were not real invoices… the client had been submitting pre-billings… hoping for the work to be completed. Then, the client had invoiced for the actual work completed later.

Not only is that pre-billing, but the client had submitted invoices for funding in the second schedule for the work performed and advanced by the factor on the first schedule. Essentially, the factor had been double funding the work (i.e., funding the pre-bill and then funding the real bill). The factor just didn’t realize it because the real invoices were considered ‘non factored’ invoices and made up the difference… (If you are following this you may want to look at your client’s invoices and collections closer).

So, how do you know? Well, here are things to watch for:

-          The average pay days begin to slip; debtors do not change their payment history overnight unless a significant problem exists with that debtor’s capacity to pay. Watch for slower payments within the client and the debtor.

-          Dilution (non-cash reductions to receivables including credit memos, rebilling and billing errors, etc) increases wherein the client bills for work that has not been completed but then re-bills for work when it is ‘really’ completed.

-          The client is receiving the checks and redirecting them to the factoring lockbox… this can only been seen if the factor actually looks at the checks. Who are the checks being made out to and where are they [the checks] really being sent? Then, what do the remittance copies include? Do they match up to the invoices factored or are those checks missing the remittance (i.e., invoice numbers and amounts). Note: if you are only receiving the check image without the remittance advice, then how do you know how to apply the check accurately?

-          Trends within the client management of the account change (i.e, the client isn’t as responsive to your requests, etc).

-          The collections and the payments don’t match. Compare the payments received to those charged back, non-factored, etc as this may be telling. Do they balance? Did the non-factored money come into the lockbox? What happened to those invoices that were charged back? Did they ever actually pay? If not, why not? Do you know?

All in all, it’s about watching the collateral, looking for trends and anomalies, watching the turnover of the accounts (i.e., the DSO, collections to purchases, etc), ensuring what you purchased as a factor ties to the checks being written by the debtor, and ultimately knowing the client’s billing practices as well as the payment habits of their customers.

Knowing and recognizing these aspects helps to identify early warning signs within a portfolio… before a potential problem develops into a loss. Identifying and monitoring these concerns can ultimately help mitigate those losses, as well as provide examples to your factoring personnel of ‘things to watch for’ within a client base and portfolio. The potential of recovery is greater for those client accounts in which a factor remains proactive and aggressive. 

Again, early identification remains critical. Losses can be mitigated by seeing early warning signs wherein the collateral and performance may be deteriorating…

I could go on and on about this aspect; however, this is only one element that exists within the overall management of a client account. Ultimately, it remains a small detail of what to watch for within client performance compared to those other signs that are more commonly known. Hence, there will be more “Early Warning Signs” to come in future blogs…

Wishing You Success. The Factor Guru.

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Plan Accordingly: We haven’t hit bottom yet

Jan 7

Posted by Gen Merritt in General Information | No Comments

After reviewing a prior blog, A Bumpy Ride: Plan Accordingly, Hold on Tight, I realized so much has happened since that time so long ago… yes, that whole less than six months ago. But, have we really planned accordingly? I don’t think many of us realized at the time just how bumpy this ride would be, especially for the factoring industry. Yes, for many factors a silver lining radiates from the economic cloud as new opportunities arise and as deal flow tends to increase during a recession. For some, however, tough times lie ahead with the ever changing credit markets expected to continue through much of 2009.

For one, what do factors typically rely most heavily upon when determining extending credit facilities to prospective clients? Their customers’ credit: the debtor credit. And, what is currently happening around us? Is there anything you read anymore without seeing businesses of all sizes filing for bankruptcy, restructuring or losing their financing lines? Probably not…

A recent article that came out on The Secured Lender’s email updates further expanded on this theme, focusing on certain industries.  Their take and others: we haven’t neared the bottom yet.

For a factoring company, continued vigilance on reviewing customer (debtor) credit must remain a priority. Further, special attention should be adhered in carefully looking at the underlying documentation supporting the sales made to these debtors (the receivables). If a debtor begins struggling with cash flow and a reason exists allowing for discounts, returns, credits or other offsets, then factors and their clients may begin experiencing more challenges in collecting on those receivables.  

Hence, the importance of sticking with the basics of factoring: continued focus on the debtor credit and underlying documentation supporting that sale.

Then two, it did happen; Prime went lower than LIBOR. But that’s not the big news. As Paula Cole sang, “Where have all the [lenders] gone?” After significant layoffs, even institutions such as Textron Financial Corporation ceased providing credit facilities to finance companies in late 2008. More and more banks and financial institutions are restructuring as well, causing a delayed effect on the small factor and their ability to finance their clients. And, what about the hedge funds who financed factors? Or, are we no longer allowed to talk about them… did they ever even exist?

With all these changes occurring, where is the factoring industry headed? Does anyone really know? Many factors with prudent monitoring procedures, a solid capital structure, and flexibility within their organization to contend with the new credit landscape will continue to grow, maybe even more during 2009 with the influx of new opportunities also resulting from the current credit market and conditions.  The question remains, however, have we really planned enough? Have you?

“A man who does not think and plan long ahead will find trouble right at his door.” ~ Confucius

Wishing you success through 2009. The Factor Guru.

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