HOW EXPORTERS ARE UTILIZING TRADE RECEIVABLES FINANCING

Zubin Irani’s consulting firm, cPrime, has been on a tear the past few years, building a client list that includes Adobe, Disney, Oracle and Wells Fargo. The fast-growing Foster City, Calif.-based company, which advises organizations on how to build their software more effectively through smart project management and the use of a method known as “agile” development, has recently sent members of its team to locations as far flung as Chile, India, Romania and Singapore to share their expertise.

While cPrime’s team welcomes the business it gets from its multinational clients, working with the big guys sometimes comes with a challenge. Giant organizations sometimes take more than a month or two to pay their invoices. In the meantime, Irani, the firm’s CEO, needs to maintain enough cash flow to pay consultants at the firm, which has a 120-person team.

To that end, he’s secured trade receivables financing through California Bank of Commerce, a commercial bank in the San Francisco Bay Area, for the past two years. This method enables his profitable 10-year-old firm, which has about $20 million in annual revenue, to borrow against $2.5 million worth of its receivables. The bank will advance him up to 90 percent of the value of the receivables. Meanwhile, cPrime pays interest on whatever money it has borrowed (Irani was not at liberty to disclose the rate). As payments from cPrime’s customers arrive at a lockbox the bank has set up, the receivables are applied to the debt. cPrime still owns the receivables and has the responsibility for collections, Irani says.

Irani has found trade receivables financing to be much more convenient than drawing on the $350,000 line of credit the firm once had with another bank, which cPrime maxed out quickly, due to its rapid growth. “It’s really working capital financing,” he says of the asset-based lending the firm has done through California Bank of Commerce.

As more businesses dive into international markets in an increasingly global economy, more owners are turning to trade receivables financing. “It offers companies an alternative option to unlock cash,” says Analisa DeHaro, associate principal for REL Consultancy, a division of The Hackett Group, a global strategic business advisory and operations improvement firm headquartered in Miami, Fla.

There are many reasons companies try it. They may want to improve their balance sheet, add to cash flow, secure financing at cheaper rates than they can through other means, gain the latitude to offer attractive credit terms to important customers, pursue new sales opportunities without draining their cash reserves, or reduce the risk of venturing into particular markets, say experts. Some users like the fact that trade receivables financing isn’t disclosed to their customers, like factoring.

Thanks to the demand, trade receivables financing is now being offered by a small group of banks, including Bank of America Merrill Lynch, as part of their arsenal of financing tools for growth companies. Ernst & Young’s 2012 Cash Management Survey, published in 2013, found that among 45 financial institutions and three non-banks, six banks offered trade receivables financing and purchase order financing, while another four banks provided trade receivables financing alone.

Each bank offers its own spin on the product. Bank of America Merrill Lynch introduced trade receivables financing in 2011 to exporters as a post-shipment option. In the bank’s program, the bank buys the receivables at a discount from a company and advances 80 percent to 100 percent of the value to the company, explains Amit Jain, a director and senior product manager at the bank. The company continues working with its clients to collect its payments, and the bank uses the receivables that arrive to pay down the debt on a daily basis.

To cover the cost of trade receivables financing at Bank of America Merrill Lynch, a company pays a discount fee that is equivalent to a percentage of the receivables. If, say, the bank advances 100 percent on an invoice, the company might get 99 cents on the dollar from the bank, for the total value of the receivables, with the bank keeping the remainder. The advance amount depends on the buyer-seller relationship and factors such as a history of dilution and charge backs, Jain says.

Jain says the typical business in the program is a middle market to large company that has an ongoing sales concentration with large, creditworthy buyers. Typically, users of the bank’s product want to leverage their buyers’ good credit to get cheaper financing, he says.

Trade receivables financing isn’t ideal for every firm. Sometimes, companies would be wise to improve their in-house accounts receivable and collections procedures to increase cash flow before trying it, say experts. Depending on how deals are structured, this form of financing can become expensive, once interest and, in some cases, upfront structuring fees are considered. And, as DeHaro notes, some of your receivables might not be eligible under your agreement with a bank. The performance of your receivables can also affect the availability of funding, which could make it less attractive if you’re in dire need of cash.

Here are some tips to help you figure out if trade receivables financing is right for your firm and to find the right financing source.

Take a close look at your receivables. Irani found that his firm was an ideal candidate for trade receivables financing because of the strong credit profile of the big clients who hire his firm. That helped him get an attractive interest rate. “Our clients are all fantastic—all are A-plus rated,” he says. “We had high-quality receivables.”

The better your buyers’ credit, the cheaper this form of financing will generally be. In the trade receivables program at Bank of America Merrill Lynch, “the discount cost is based on the credit risk of the buyer,” notes Jain.

Banks don’t want to finance receivables that will turn into a headache to collect. Bank of America Merrill Lynch likes to see that a company in its program has been working with its buyers smoothly for a period of time. “We want to make sure there’s an existing, established relationship between the buyer and seller, with very little or no history of disputes,” Jain says. The bank won’t finance receivables that have liens against them, Jain adds. If a company wants to participate in the program it should make sure its existing credit and loan agreements are flexible, to allow the company to release and sell its receivables, free and clear of any liens, to Bank of America Merrill Lynch, Jain says.

Find the right partner. cPrime wasn’t happy the first time it tried trade receivables financing, with a different bank than the one it is now using. “We found a bank that was a little cheaper and hard to work with,” Irani says. “They didn’t really have their act together. When we made requests, it would take a little longer than we wanted to get the money.” If cPrime had any problems with its receivables, he says, “they weren’t as responsive.”

When Irani shopped around for new sources of trade receivables financing, he was impressed that his current bankers wanted to take him to lunch and really get to know his business. “They really were looking for a long-term investment and talking about how they could help us in the future,” he says. “That was a big differentiator.”

His banker has since become a resource, helping the company to improve its accounts receivable processes and collections—down to reminding him if there are a lot of aged receivables to collect. “We sometimes think of banks as machines that you get money from,” Irani says. “When you’re doing receivables financing, they become almost an extension of your finance group.” While some entrepreneurs might not welcome that much involvement, he says it has made the firm stronger. “It’s really improved our cash position,” he says.

Read the fine print. Not all trade receivables financing deals are structured the same way, so read your contract to understand how a bank is calculating the age of the receivables, says DeHaro. “It could be based on the invoice date or due date,” she says. Understanding such nuances is very important, because they determine the ultimate cost of the financing and the availability of your funds, she says.

Banks will typically want to do due diligence to determine which of your receivables can be used in the financing. They may want to do a daily, weekly or monthly review of your receivables. Make sure you understand how that will take place, so you’re prepared, she advises. If your financial processes and procedures are disorganized, getting your house in order ahead of time can only help.

As Irani found out, close communication with your bank is the key to a successful relationship. Find out how often you are expected to keep in touch with the bank about your receivables, and how you should go about doing that, advises DeHaro. Get clear on the legal requirements of the contract, too, so you stay in compliance, DeHaro advises. It definitely won’t be light reading, but understanding it inside out will help you get the most out of the arrangement.