Lesson 1: What is Freight Factoring?
Many small to medium-sized trucking companies struggle with cash flow and accounts receivable collection problems that keep the business from expanding and running efficiently. Freight factoring companies help thousands of truckers nationwide manage their finances. Learn how it works in our four-lesson overview of the factoring business.
”Factoring” is the sale or purchase of account receivable for a discounted price. It’s also a math term, but in terms of transportation factoring, here’s the only math you need to know: working with a freight factoring company gets you paid immediately.
What is a Factoring Company?
The factoring business exists to solve a common problem faced by trucking companies and freight brokers: customers typically take 60-90 days to pay their bills – long after the business has to pay employees, buy fuel, and do necessary equipment maintenance. Not to mention the risk involved in carrying accounts receivable: Will you get paid? And when?
The solution to this particular math problem is simple: use a factoring company to reduce your risk and get paid immediately. Triumph Business Capital has assisted thousands of truckers with our full suite of solutions to trucking companies and freight brokers.
Triumph offers one of the best solutions for your trucking business.
What Does Factoring Mean? A Case Study
Factoring is a sale, not a loan. Here’s a short case study of a business that could benefit from factoring:
“Tailgate Trucking” is a start-up business with a problem: lots of business, but not enough capital to support it because Tailgate’s customers all pay in 30-90 days. The problem is that Tailgate has to pay expenses – gas, taxes, salaries, etc. – a lot sooner.
Banks are no help. Tailgate can’t get a bank loan because its only real collateral is its rigs – which are already financed. That’s where a factoring company comes in. As long as Tailgate Trucking has customers, it has a solution: factoring.
The factoring company provides money to Tailgate based on the amount of Tailgate’s invoices. Banks consider this sort of paper “too risky” for a loan, but a factoring company views the invoices as collectable debt – an asset that’s worth the risk.
When Tailgate Trucking’s owner learns about the factoring business, he knows he’s found a solution to the company’s cash flow problems. He no longer has to wait months to get paid on slow-paying freight bills because the factoring business can offer cash quickly.
What is Factoring? The Takeaway
- A factor is a company that pays money for your invoices.
- Factoring helps small and mid-sized businesses manage their receivables and cash flow.
- Factoring isn’t lending. The factoring company buys the invoices.
For many truckers, factoring is often a good deal – but not always. Continue with our easy-to-understand course on that explains what factoring means and how the factoring business works. Learn how to tell the good from the bad, and how to make factoring work for you
Lesson #2: Recourse Factoring
Let’s quickly recap what we learned in Lesson #1.
A factor is a business that buys a company’s invoices, or its accounts receivable.
“Factoring” is what factors do, which is pay money for another company’s debts.
Factoring isn’t lending. A factor doesn’t loan money for collateral. A factor purchases your invoices less a market discount. You give up a little money—how much depends on the circumstances—to get most of your money right away.
What’s Recourse Factoring?
On to Lesson #2. Factoring is a business that can be found in most industries, but it’s particularly common in freight hauling, and particularly for start-ups. There are two basic kinds of factoring: recourse and non-recourse. This lesson will deal with recourse factoring, which is the kind favored by bigger operations with large fleets.
Definition: recourse factoring is the sale/purchase of accounts receivable with the option of legal recourse in case of default.
Triumph Business Capital offers both recourse and non-recourse factoring. With recourse factoring, Triumph provides cash flow solutions to your business promptly and includes issuing invoices and collection services.
Factors & Invoices
That’s a little abstract, so let’s illustrate the idea with an example. Say you’ve got a trucking company—“FastFleet”—of about sixty tractors. FastFleet has been in business five years but you’ve always depended on your loads to generate working capital. Lately loads have been unpredictable and FastFleet is running behind on payments, which are incurring penalty fees.
You’ve been eating the fees, but they’re starting to eat you. You can’t go to a bank because FastFleet’s only real collateral is its rigs, which are already financed.
On the other hand, you’ve got an established business with steady customers. You’re not desperate but you could use some help till things pick up. You don’t have the kind of collateral that banks like (the kind they can resell), but you do have money coming in: your invoices. They’re just not coming in on time.
That’s where the factor comes in. Factoring companies like invoices. It’s what they’re set up to do. Therefore your company, FastFleet, contacts a reputable factoring concern, which we’ll call “Crown Factoring.” FastFleet and Crown sign a recourse contract, standard for most medium-sized truckers. Crown buys FastFleet’s invoices, minus 5% (or whatever the market rate is).
Triumph lends its expertise to any size trucking operation by offering factoring services to help improve your cash flow. Whether you are a small trucking company, or a freight broker, Triumph Business Capital offers the finest factoring and accounts receivable management solutions.
Recourse Factoring Advantages
Not a bad deal, you get working capital, plus you’ve unloaded your accounts receivable chores onto someone else. Crown Factoring assumes the responsibility of billing and collecting FastFleet’s debts.
In fact, Crown now owns FastFleet’s debts because (see Lesson #1) factoring is a sale, not a loan. If somebody doesn’t pay, Crown’s out of luck but FastFleet is in the clear, no liability. Right?
Well, actually no (sorry). Before we get into why, let’s continue the example. Among the invoices Crown bought from FastFleet is a bad apple: “Krazy Karl’s Karnival Rides,” which has folded its tent in the middle of the night and vanished, leaving debts and bad checks all over town.
Somebody’s gotten taken for a ride. Now maybe FastFleet should have looked twice at Krazy Karl’s credit score, or maybe Crown should have examined FastFleet’s loads closer. Like lawyers say, that’s immaterial. If Crown’s collection department can’t trace Karl, FastFleet is liable for that invoice: one fold-up Ferris wheel delivered to Marty’s Midway in Nub, Nevada.
Is that fair? Sure. Most sizeable purchases come with a warranty of some kind. By definition, recourse factoring means the factor (that’s Crown) has legal recourse to collect any unpaid debts from the seller (FastFleet).
But what if you don’t want to be liable for your unpaid invoices? In that case, FastFleet and Crown can do a contract for a non-recourse loan. That’s an option, though one not favored by fleet owners. Non-recourse is usually saved for smaller, owner-operator companies. There’s a reason, which we’ll go into next lesson.
In the meantime, here’s your takeaway:
Recourse factoring means the seller (the trucker) is liable for unpaid invoices.
Recourse factoring is usually an option for fleet operations.
For many truckers factoring is a good deal, but of course not always. Stick with this course and you’ll learn how to tell good deals from bad, and how to make factoring work for you. See you next class!
Lesson #3: Non-Recourse Factoring
Let’s quickly recap what we learned in Lesson #2.
There are two basic kinds of factoring: Recourse and Non-recourse.
Recourse factoring means the factoring company has legal recourse for unpaid invoices.
Recourse is favored by larger operators, i.e. fleets.
What’s Non-Recourse Factoring?
On to Lesson #3. Recourse is the most common kind of factoring, generally used by medium-sized operations. Its downside is the trucker is still liable for unpaid invoices.
But what if you don’t want to be liable for your unpaid invoices? What if your little company, “Tailgate Trucking” (basically you and your brother), can’t afford a $10,000 hit if somebody skips? In that case, your best option is non-recourse factoring.
Definition: non-recourse factoring is the sale/purchase of accounts receivable without the option of legal recourse in case of default.
Non-recourse is designed for small companies, usually owner-operators. It’s got its own downside though, which is it’s more expensive per load than recourse factoring. Why? That’s obvious; the factor is taking on all the liability.
Non-Recourse Financing in Everyday Life
Non-recourse financing takes lot of forms and it’s very common. Chances are you’ve been involved in it yourself several times this week. When was the last time you used a credit card?
Credit cards work on the same principal as non-recourse factoring, at least for the merchant. They’re optional of course, so not all businesses offer them. Example: let’s say you had lunch at Bub’s Diner and paid for it with your MasterCard. Now Bub has done a contract with the card company signing over all rights to bills paid with MasterCard in exchange for immediate payment (less a percentage).
It’s a pretty good deal for Bub. If you don’t pay your entire MasterCard bill this month—in other words if you don’t pay for your meal—no problem, MasterCard is good for it regardless. Suppose you hit a financial bump and you only pay your minimum for a few months, MasterCard can’t go to Bub and demand payment. In effect, it bought Bub’s invoice to you. The card company’s deal is non-recourse. Merchants love that, though of course they pay for it.
Note: MasterCard’s deal with you is a loan, not sale/purchase, so it doesn’t work the same in both directions. By definition, factoring is a business-to-business enterprise, not business-to-consumer. Credit cards work partly on the factoring principal, but they’re not factors.
Plainly stated, non-recourse factoring is considered the safest choice for carriers planning to factor their invoices. The reason this type of factoring is safest is because carriers know exactly what the factoring will cost and when they will be paid. This type of factoring absorbs the risk of legal costs, collection fees and/or loss if the customer is either slow to pay or doesn’t ever pay
The Downside of Non-Recourse Invoice Factoring
Back to trucking. Let’s say your business, Tailgate Trucking, has decided to sign a non-recourse contract with a reputable factoring company, “Crown Factoring.” Your deal with Crown is $10,000 for all your loads on one run. (It doesn’t necessarily have to be all your loads, but let’s use that as an example.) Crown buys Tailgate’s invoices, less its fee. In this case (example only), its fee is 8%. It pays you $9,200.
That’s $300 less than it would have paid a bigger business—FastFleet Trucking—for the same load, but that’s because Crown’s deal with FastFleet was recourse. If somebody skips, FastFleet is liable. Tailgate isn’t.
But what if you’re willing to take on the risk of a big hit? Can you sign a recourse deal with FastFleet and get better terms? Probably not, but that’s a topic for another lesson. Here’s your takeaway for this one.
- Non-recourse factoring means the seller (the trucker) is not liable for unpaid invoices.
- Non-recourse is usually an option for owner-operators.
For many truckers factoring is a good deal, but of course factoring involves various details that require your commitment and careful attention. Stick with the remainder of this factoring course and you’ll learn how to tell good deals from bad, and how to make factoring work for you. See you at your next class!
Lesson #4: Factoring for Brokers
Let’s quickly recap what we learned in Lesson #3.
- There are two basic kinds of factoring: Recourse and Non-recourse.
- Non-recourse factoring means the factoring company has no legal recourse for default.
- Therefore the seller (the trucker) is not liable for unpaid invoices.
- Non-recourse is favored by smaller businesses, i.e. owner-operators.
- Non-recourse is more expensive than recourse.
What Are Freight Brokers?
On to Lesson #4. Shippers and carriers don’t find each other by chance. The indispensable intermediary in their arrangement is the broker, who posts the load and facilitates both contact and contract. Brokers come in all sizes and shapes. Big carriers often have their own brokerage departments. Big shippers—those that don’t have their own fleets—do the same.
Definition: a freight broker acts as intermediary between shipper and carrier. For this service, the broker is paid a percentage of the shipping fee. A freight broker plays an important role in the movement of cargo, as he or she works to determine the needs of a shipper and connects that shipper with a carrier willing to transport the items at an acceptable price.
Setting aside industry elephants, most carriers and shippers use independent brokers. These vary from large brokerage firms that handle thousands of loads a day to small operations run out of the office part of the bedroom. Large or small, these businesses often need financial help.
Freight Broker Financing
Freight brokerage business can be very profitable, but freight broker drivers depend on the freight broker to be paid on time. Factoring Brokers assume responsibility for carrier payment, as well as liability for damaged or undelivered freight. Freight insurance can cover the second event, but the first—carrier payment—is another matter. Shippers often don’t pay for 30 to 90 days, but only the larger carriers have the wherewithal to wait that long. Most medium to small carriers exist on a thin margin and a major expense is a painful blow, sometimes a fatal one.
For that reason, most carriers want quick, often immediate payment. However, few brokers have ready access to sizeable capital. Banks won’t lend money on the only collateral a broker can offer, the shipping invoice. The freight broker is caught in a squeeze. If he can’t provide immediate payment, he can’t get a reliable carrier. Although many companies do not offer this specialty type of factoring broker service, Triumph provides factoring specifically geared towards factoring freight brokers.
The Factor’s Role
This is where the freight factor comes in. Freight broker factoring provides a service that is set up to advance money for invoices. Factors exist in most industries, but they’re especially common in trucking, freight and transportation. Factoring goes by various names, such as invoice discounting or accounts receivable financing, but the transaction is the same. The factor buys the invoice from the seller, whether that’s a carrier or a broker. Notice that this is a sale, not a loan. The factor assumes responsibility for billing and collecting the debt.
Of course the factor doesn’t pay full value for the invoice. It deducts a percentage, the amount depending on circumstances. In return the broker gets most of his money right away, which he uses to pay the carrier. (The carrier accepts the reduced amount as the cost of immediate payment.)
You can see the broker’s problem. Between the factor and the carrier, his margin is razor thin. On the other hand, his overhead is minimal, mainly payroll. As a broker, if you’re enterprising and careful, you can make a good living, but it’s absolutely vital to deal with factors you know and trust. Based on its long standing reputation, Triumph offers the finest factoring broker and accounts receivable factoring management solutions on the web.
Likewise, the factor has to know and trust you. How carefully do you check your shippers’ credit? Do your carriers have reliable delivery records? Can you be counted on for regular business?
This last is especially important. Like any business, factors adjust their payments for volume. In fact, a common arrangement is for the factoring broker is to take over a firm’s entire accounts receivable. This has its risks, but it can be a godsend for small shops, as this arrangement lets them focus on freight brokering and not billing
There’s the bell! Here’s your takeaway for this lesson.
- Brokers are the connectors between shippers and carriers
- Brokers assume liability for freight delivery and payment
- Brokers must be able to provide carriers with immediate payment
- The great majority of brokers must have access to outside capital, which is usually provided by factoring companies
As with carriers, factoring can be a good deal for brokers, but of course not always. Whether you’re a driver, owner, broker or just learning the ropes, stick with this course and you’ll learn how to make factoring work for you. See you next class! Learn more about our freight broker factoring services.