Fear of Factoring
"They're the devil in disguise." That's how Barry Weinstein describes factors -- the financing agents that advance cash against a company's accounts receivable for fees that range from hefty to exorbitant.
Weinstein, the chief executive of retailer Fulton Computer Products, should know. Five years ago, when his Rockville Centre, N.Y., company had about $2.5 million in annual sales, he was desperate for capital but couldn't attract any funds for growth from bankers or outside investors. "I saw an ad from a factoring firm and decided, 'OK, whatever it costs to raise money this way, I'll just calculate it into my profit margins and still manage to keep the company profitable.' "
That was easier said than done. The arrangement Weinstein worked out was pricey: "I turned over our invoices to the factor, and it paid me 80% of their value and then charged me interest of 5% a month, to a maximum of 13% of the total invoice, on the uncollected funds." The costs mounted fast: "I could wind up losing 75% of my net profits to factors during any particular year," he says.
Fortunately, Fulton Computer grew so rapidly -- to sales of $32 million last year -- that Weinstein has been able to slowly reduce his reliance on factors. But he warns other entrepreneurs that "fast growth can be like a rubber band that pulls you out but also pulls you back to the factors, since you wind up turning over all your new invoices just to get the cash to pay the interest on your older, factored receivables. It's an endless cycle."
In a bid to reduce his financing costs, Weinstein has switched factors twice: the first time, he reduced his monthly interest charges to 2.5%; the second time, he worked out an arrangement in which a local bank provides capital (at an interest rate of prime plus .5%) and a factor simply guarantees his receivables for a monthly fee of 1.5%. "If you have to use factors, remember that every fee is negotiable, especially as your company gets bigger," he says.
While the erosion of profit margins has been the most painful part of the factoring process for Weinstein, he has other complaints. "We've had to hire three extra people to handle all the additional paperwork," he says.
It can get complicated. At Fulton Computer, says Weinstein, "we bill a customer for $1,000, but the factor gives us 80%, so on our books only 20% is outstanding." Part of the point of using factors is that the task of collecting receivables is off-loaded -- but not at Fulton Computer. "In reality, $1,000 still has to be collected," says Weinstein. "We do it ourselves because you can't always trust all factors to collect receivables promptly when they can charge you so much interest on uncollected funds."* * *
For a different perspective on factoring, see "How to Pick a Factor," Banking and Capital, February (Doc No. 02940892).* * *