Financial Journalist

27 November 2008 — Gerry O’Kane, Finance Week

Although factoring has become more important to the cash flow of British business, it still has its pitfalls. Here Gerry O’Kane looks at how to truly value your deal and points to other pitfalls and benefits.

The first thing to remember about factoring companies is that they don’t offer the same thing; there are always differences.

This is the considered opinion of Ian Johnston who has been in the business for over 30 years and runs Factoring Solutions, a broker for the sector. Although companies may only now be coming around to understanding the potential of how factoring can help in stabilising cash flow, they have also picked the worst time in 10 years to dip their collective toe in the water.

Even so, some SMEs have been forced to take this route over the past eight years as banks have pushed the business of lending from their company account overdrafts to higher charging factoring.New research from software house, KashFlow, revealed that SMEs in the business services sector are spending an average of five hours every week chasing overdue invoices to maintain their cashflow. Late payment of monies owed - including the time and resources taken to chase late debtors - is a large contributory factor to the failure of many smaller businesses.

Kashflow, a winner of Finance Week’s Software Satisfaction Awards, fielded more than 55 phone calls in one week from customers with clients who have gone out of business owing them money. Duane Jackson from the company said, “I’ve never know anything like it. We’re all aware of the economic downturn, but our small business customers are very concerned. And many are frankly scared.”

But can factoring offer a solution? Many of the largest in the business of factoring or invoice lending, are arms of the banks and we all know how cash flush they are. There are other companies in the business, but Johnston warns that both the big boys and the independents have drawbacks and customers need to be even more canny.

As it stands currently deals of anything under £100,000 are snubbed; the cost of money is too high and the factor’s fixed costs need to be serviced.

One major warning he makes, is to truly cost your deal. While one company may offer a lower interest charge on the invoice, their capability to turn your invoices into payments efficiently, may be much worse then their competitor. The result is that the company may end up paying more in charges.

For factoring companies their biggest expense after the cost of money [to be lent out] is staffing. As risk increases many factoring companies may take on more and more customers to spread this risk, this stretches staff and may affect how good they are at credit control.

The banks have become far more choosy in their customer base and Johnston comments that while Lloyds TSB would have taken “any business” months ago, now even well-heeled customers were under pressure as charges have been ramped up.

“I’m receiving a lot more enquiries from existing factoring clients partly because many of the major bank-owned factors that have spent the last couple of years just buying turnover at any cost who are now reassessing their portfolio a little more closely and pruning those that don’t meet this year’s criteria and upping the rates on some of the others,” says Johnston.

The highest rate on invoices from factors now stands at 90% at the very top end.

But these are not the only issues facing company customers. To protect themselves against unpaid invoices on which the factor has paid against, companies have tied up non-recourse factoring deals.

This structure means the factoring company takes on the risk of non-payment and you pay a fee for the privilege. However as times have got tougher so have the terms on non-recourse deals and in some cases they are no longer offered. Generally companies would be looking at a 2% charge over base rate for non-recourse factoring in addition to the charge of up to 3% to provide factoring.

Two sectors in particular have always been hand-in-hand with the factors (the company that provides the finance), the building industry and recruitment. “While construction is unloved by some factors there are those who will accept business and in my view it means they’re desperate for work, while the recruitment industry might take up nearly 50% of the business,” outlines Johnston.

The sector that does not benefit from the magic of factoring is retail; in part the Consumer Act prevents deals with those who rely on receipts from private individuals.

It is always worth taking legal advice when entering any factoring or invoice lending deal.

Factoring+UK business

12 November 2008, Finance Week

Working capital specialist, Brian Shanahan tells Gerry O’Kane that Tesco’s move to improve its own working capital by taking longer to pay its suppliers, is wrong.

Long accused of pushing suppliers into tough deals, Tesco has ratcheted up its squeeze on them as it searches for improved cashflow.

While it may be asset- or cash-rich, so important is improving the vast amounts of working capital Tesco needs for day-to-day business that it is trying to shore up cashflow by extending payment terms to its suppliers.

In other words it is using its purchasing muscle in a shrinking market to demand that companies allow Tesco to hold onto cash longer while cash-strapped suppliers struggle to handle longer debt periods. Drinks suppliers, amongst other firms, have been given ‘take it or leave it’ ultimatums demanding drops in prices by up to 10%, cough up extra cash for advertising and a moratorium on price increases.

It has also claimed that some of its suppliers have benefited from falling commodity prices so they could afford to pass on improved cashflows. Suppliers deny this.

“The fact that Tesco and others are trying to extend terms to 60 days is no surprise - we already have Argos extending terms to 105 days and other retailers are attempting similar strategies - what is surprising is the speed at which Tesco are trying to implement these measures,” observes Brian Shanahan, senior director at REL, a company with over a decade history in surveying British and European working capital practice.

He believes it reflects poor supply chain planning amongst retailers as the speed of these actions indicates that large retailers are desperate to rebalance the working capital strain that will come with large quantities of unsold stock. Tesco, in particular is under increasing pressure from perceived low-cost chains like Lidl and Aldi.

However the way in which companies like Tesco are trying to improve cashflow, by squeezing payment terms in their suppliers, will have a bad effect on the UK economy over the longer period. “It is pretty standard practice for larger companies to strong-arm suppliers, particularly when times are tough. But Tesco’s decision is bad business plain and simple. At best, they’ll damage their relationship with these smaller suppliers. Some may even walk away from the relationship. At worst, Tesco’s actions could even put some of their suppliers out of business,” says Shanahan.

He, like others, believes this type of tactic will cause businesses to fold creating short-term supply issues and possibly force up consumer prices at a time when the market place is ultra competitive.

“There’s no question that the current economic environment is very challenging. But rather than resort to these types of desperation moves, the most forward-thinking large companies will do almost exactly the opposite of what Tesco and others have done,” says Shanahan. “They’ll work more closely with their suppliers and collaborate with them, creating a situation where both companies share key data on manufacturing capabilities, inventory and demand forecasts. It is possible to create a win-win situation here, with buyers more easily able to find the products they need, when they need them, at the best possible prices, and suppliers able to count on their best customers and still make a reasonable profit.”

Tesco+working capital