When Is Accounts Receivable Financing a Good Option?
Every financial product aimed at the business community has its own optimized use conditions, and often the instruments that have uneven reputations have them because they are frequently used in place of a more efficient loan product. That’s why learning the best uses for each can be the biggest step you take toward minimizing business overhead. It’s easy to see that secured, long-term loans are most efficient when they’re used to purchase properties and equipment assets, because the asset in question can serve as the collateral while the loan spaces out the cost of acquisition, allowing you to earn a return even before the loan is totally paid down. So when should you use a short-term instrument like accounts receivable financing? As it turns out, in that particular case the optimum use is often as a cash flow management tool, but you can also raise capital for a short-term opportunity with it if need be.
Why Is AR Financing Efficient for Cash Flow Management?
Since the cost of an AR loan is typically based on the amount of time your financing company waits for payment, it can be incredibly low cost as a short-term loan option. You won’t have a zero-cost grace period like you do with credit lines, but you will have the ability to access capital that should have already come into the business, allowing you to make payment commitments on time even when your own clients don’t. To reduce your overall costs, finance the whole set of invoices on your books at the moment, and then look at your client payment histories. The key to avoiding high penalties is to find a lender whose penalty period kicks in later than your customers pay, or at least later than the vast majority of them tend to pay. That’s the risk in accounts receivable financing, after all. If clients pay late, it costs you more.
What About Financing for Short-Term Capital?
While it’s less common, financing your accounts can be an efficient way to raise capital for inventory load-ups or other startup expenses when you have a large order come through. The ability to take on that order sooner means doing more work than usual, enjoying higher profits, and perhaps even permanently increasing your volume of business as more clients realize you’re ready to handle large orders. It’s not always the best choice, though. Compare its costs for your customers’ average payment windows to other financing costs on a case-by-case basis to decide if accounts receivable financing is the best option for today’s needs. That call gets easier to make as you have more experience using this tool, which is a good reason to start leaning on it when you need to get cash flowing.