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Why has accounts receivable factoring become such an important financing tool for companies operating in the telecom industry? More importantly, why do so many integrators, original equipment manufacturers, distributors and VARS (value-added resellers) see accounts receivable factoring as an essential part of financing their operations? In order to answer these questions, think of what's involved with managing a business in either the satellite communications or wireless markets. Think of how both of these markets are known for extremely long receivable collection times and how difficult it is to manage cash flow when collecting on a receivable that can take anywhere from 120 to 150 days or more to collect on. Think of the how difficult it is for manufacturers to operate in these aforementioned markets, ones where their ability to maintain on time deliveries is measured by their ability to maintain a positive cash position, one that allows them to order the raw materials needed in manufacturing. Finally, think of the value chain that's involved in putting together a terrestrial earth station and integrating a large remote location project. Ultimately, accounts receivable factoring is not only critical to a telecom company's operations, but it is essential to that company's success.
The Difficulty of Financing a Telecom Enterprise
Now, most would assume that telecom companies would have multiple financing options or that financing an enterprise in the telecom sector would be fairly easy. However, this simply isn't the case. The reality is that most banks and conventional financing institutions are reluctant to work with companies in the telecom industry. Granted, at one time, banks and credit unions were more willing to advance telecom companies capital. However, times have changed and many banks now see too much risk in financing a company with long receivable collection times. Ultimately, these banks and conventional financing sources tend to see the high receivable collection times as a sign of impending doom, one where losses are exacerbated and one where multiple companies within the value chain end up going bankrupt.
Even for those companies that are able to draw upon a credit line with a bank, their security is less than guaranteed. First, companies must provide banks with all three financial statements. This includes giving the bank the company's income statement, its balance and cash flow statement. In some cases, banks insist on audited financials as the possibility of misrepresenting a financial statement can be quite high in today's marketplace. Second, telecom companies often have to demonstrate a history of performance, one where the bank can assess the company's performance over a three, five or even ten year period. Finally, today's banks perform a thorough review of a telecom company's credit rating and history, often calling upon an independent review of the company's finances by referring to the telecom company's Dun & Bradstreet's (D&B) report.
Ultimately, financing a telecom company is a serious endeavor for a bank, one it doesn't take lightly and one they never move forward on without first reviewing all essential criteria. In the bank's view, the relationship is a long-term one, a relationship where the telecom company must meet several stringent criteria. Unfortunately, very few companies are able to meet these criteria. Very few telecom companies have the profit and positive cash position to secure financing through a bank. Most importantly, very few companies are able to rely solely upon bank financing. The issue ultimately comes down to the difficulty of managing a business within the telecom sector, one where long receivables collection times are commonplace and one where every company is guaranteed to have cash flow issues. After all, how can a telecom company secure financing when one of the requirements is a solid cash flow statement? In the end, that cash flow statement is deficient because of the market itself, not because of how the telecom company operates.
Understanding Accounts Receivable Factoring
Accounts receivable factoring is considered an asset-based financing solution, one where telecom companies are able to use their receivables in order to establish a credit line with a financing firm. Receivables factoring is but one of several asset-based financing solutions that companies in the telecom industry can call upon. In addition to receivables factoring, there is also purchase order financing, inventory financing and real-estate financing.
In the case of purchase order financing, a telecom company is able to use its short-term and long-term contracts, current purchase orders and confirmed backlogs as credit in order to secure working capital. With inventory financing, a telecom company is able to use the value of its inventory in order to establish a credit line. Finally, any telecom company that owns its building or warehouse is one that can use either in order to secure credit. However, using inventory financing is a risky proposition, one where the costs are considerably higher than other asset-based financing solutions. In addition, not every company owns its warehouse or building. However, all telecom companies can use accounts receivable factoring. Ultimately, receivables factoring is best suited to all telecom companies. So how does it work?
Simplifying Accounts Receivable Factoring for Telecom Companies
With accounts receivable factoring your company doesn't have to wait 90 to 120 days to collect on a receivable. Instead, you send that receivable to a financing company who then advances your company upwards of 80 percent of the receivable's value. By purchasing the receivable, the financing company has the responsibility of collecting on your customer's invoice. Once your customer pays in full, the financing company credits your account the difference between the 80 percent advance and the 20 percent remaining on the receivable. Finally, there is an administration fee and an effective rate charged for the financing company's services. The administration fee is applied directly to the total value of the receivable, while the effective rate is applied to the 90 percent upfront advance.
With receivables factoring, your company must provide the financing company with all the essential information needed to set up the credit line. This includes provides the financing company with information concerning your customer's business name, their location, their phone numbers, their line of business and any and all information concerning the amount of sales generated with this particular customer.
Comparing Asset-Based Financing with Bank Financing
So how does an asset-based financing solution like receivables factoring differ from bank financing? Well, there are many differences. First, financing with a bank involves providing all three financial statements and going through a series of checks and balances. In contrast, with receivables factoring your company doesn't need to provide any financials. Second, with bank financing the onus is on your company passing a stringent set of criteria, most of which is based on having an excellent credit rating and demonstrating solid performance over a given period of time. In contrast, with receivables factoring your company's credit rating plays no role in the decision to advance your enterprise capital. Instead, the decision rests with the account debtor's credit rating. Finally, financing through a bank implies taking out a loan, one that will show up on your balance sheet. In contrast, receivables factoring is similar to a loan, but it will not show up on your balance sheet.
Receivable factoring in the telecommunication industry is popular because it allows any telecom company to secure financing, regardless of its size or its age. It is an ideal solution for new start-ups and for any company that has seen a decline in their credit rating. It is a solution that improves cash flow and it is one that allows companies to avoid the high costs of waiting for customers to cover their invoices. Ultimately, it is a financing solution that is ideally suited to the long receivable collection times found within the telecom industry.