Receivable Financing – In some cases, a company may be able to obtain funds against its accounts receivables provided that collections are good and the receivables are related to large sales volume of physical products. Receivable financing can take two forms: 1) Pledging your receivables as collateral to borrow funds or 2) Selling the receivables to a financing company known as a factor.
When receivables are pledged, the company retains ownership over the receivables and continues to collect funds from the customers. The amount that can be borrowed against pledged receivables is a function of the quality of the receivables and the financial condition of the company. Once funds have been borrowed, the company must pay back the loan even if the receivables are not collected. Therefore, it is important that receivables have a high probability of collection since customer collections are often used to help pay back the loan.
The second type of receivable financing is factoring – selling your accounts receivable. Factoring tends to be confined to certain types of businesses such as retail furniture companies. Under a factoring arrangement, customer orders are reviewed by the factoring company to make sure the customer will pay for the sale. If the sale is made, the factoring company actually collects the receivable account directly from the customer. The borrowing company is simply making and delivering the products.
Inventory Financing – In addition to receivable financing, a company may be able to obtain funds against its inventories. However, there must be a high probability that the inventories will be sold. In some cases, such as the sale of automobiles, inventory financing is a common practice. The inventory items are easily identified by vehicle identification numbers and it is easy for the lender to take possession of the item from the borrower and liquidate (sell) the inventory item. Three common forms of inventory financing include:
1. Floating Lien – A lien or claim is placed against the inventory by the lender. This type of arrangement is often used when it is not easy to identify specific inventory items due to the high volume and / or small nature of the product. .
2. Trust Receipt – The company borrows against each inventory item and when each item is sold, proceeds are held in a trust account. A portion of the proceeds is paid back to the lender to reduce the loan balance.
3. Warehouse Receipt – As a company receives inventory it obtains financing from the lender who actually controls the inventory. The inventory can be controlled through a central public warehouse or a field warehouse owned by the lender. As the loan gets paid, the inventory item is released from the warehouse for distribution.