The Factoring Force BIG Blog

I read a press release from IFG Network that announced that their 4th Quarter 2008 accounts receivable financing increased 40%. The company did not indicate whether the +40% was vs. the prior year or the prior quarter. Because IFG provides invoice factoring to construction companies, one of the assessments of this development was that it may be signaling some positive momentum in the housing market.

Now I would hope that this is true. It would be nice to read any financial tea leaves that seem to be predicting renewed strength in the economy. However, based on the information contained in yesterday’s post, in which the CFA stated that increases in receivables financing was up due to a tight credit market, I found myself wondering if the statements by IFG were on target or not.

Granted, a 40% increase in extended credit is a positive thing for a financing company. But is that really an indication that things are improving in the housing market or is it simply a further reflection of the difficulty that any business is having obtaining credit through mainstream banks and lenders? It’s not like new home construction has altogether ceased. Many building projects continue and it is likely that more would be happening if credit were more readily available. But it seems to me that many builders may be leveraging current assets to keep some activity going and move existing projects forward.

I hope that IFG is correct. We could use some good news. But I’m not certain that IFG’s strong performance in the 4th Quarter is as much an indication of a revitalized housing sector as it is of a still constipated credit pipeline.

According to the Commercial Finance Association (CFA), asset-based lending experienced only a slight decrease in the final quarter of 2008. The CFA did not find this surprising or disconcerting in light of the dramatic growth in asset-based lending during 2008. Essentially, the CFA views the industry as quite stable compared to standard leding institutions and the rest of the economy. Andrej Suskavcevic, CEO of the Commercial Finance Association, actually referred to asset-based lenders as “a lifeline for the global economy.”

Asset-based lending is the practice of extending funding to a business based on using existing assets as collateral. It is normally utilized by companies that are highly leveraged financially and have limited cash flow. Typically, the types of assets used as collateral are accounts receivable and inventory. Each of these assets has a fixed book value and factors will fund about 80% of this amount providing cash to a company faster than normal lending channels. However, the cost of leveraging assets is generally higher that a traditional commercial loan or line-of-credit. But even with these higher costs, asset-based lending has become an important method of providing small businesses with the opportunity to stay cash healthy as they move forward and grow their businesses.

I love the “lifeline for the global economy” reference. Who would have ever thought that asset-based lending would save the world!

In yet one more step towards gaining full acceptance as a valid and viable method of financing, the practice of receivables factoring was fully embraced by a bank in South Dakota this week. First Bank & Trust, of Madison, SD, has launched FirstLine Funding Group, a freight factoring entity which will operate as a division of the banks commercial lending group.

The division is being staffed by a team of seasoned freight factoring veterans and will service trucking firms and independent truckers nationwide. While the focus is esclusively on factoring freight invoices at the moment, the group will likely expand into servicing other industries in the future.

When a bank introduces a receivables factoring division, it is another clear indication that the mainstream financial sector is realizing that invoice factoring is a truly legitimate financial service and not just some shady financial scheme targeting poor credit risks and desperate business owners.

I am reminded of a similar relationship within another industry. I liken it to the way the healthcare industry has viewed massage therapy for a very long time. Massage has been practiced since ancient times, not just as a method of stress reduction but as a serious healing practice. But as modern medicine evolved, massage became just another one of those alternative medical practices that was offered in gyms, spas and chiropractic offices. It was the poor man’s physical therapy.

But nowadays, there is more acceptance of massage therapy as a valuable healing tool and more and more therapists are being employed in what is now termed medical massage. Many a doctor’s office will now have a therapist on staff and will prescribe their services a s part of a treatment program along with medications. Massage has moved out of the realm of healthcare voodoo and into the limelight of the medical community.

As evidenced in Madison, SD, receivables factoring is also edging into that type of limelight. I predict that more and more banks will begin offering factoring services. And banks do need all the help that they can get.

I have always perceived members of the factoring industry as generally honest lot. But apparently, if the opportunity to take advantage of a circumstance involving he exchange of money is present, there is a dark heart just waiting to pounce.

Factoring receivables is becoming a more popular means of generating capital or improving cash flow and as more factoring transactions take place, more opportunities to abuse the system are devised. That is what officials are warning businesses about in Birmingham, England anyway.

The scheme is actually pretty simple. A factor is engaged and systems established to move receivables to the factor in exchange for the cash value of the receivables less the factor’s fee. The factor must then wait tro collect the balances on these receivables.

What the “bad guys” do is to create what are known as “fresh air” invoices (leave it to those Brits to come up with such a descriptive moniker), which are really dummy invoices for companies that don’t exist or for products that were not actually sold. The factor unknowingly provides cash for these invoices but then cannot collect. The directors of the company are normally liable for all the amounts due to the debtor and someone within the cpmpany skims off the cas that the factor provided.

Or, entire companies can use the fraudulent “fresh air” invoice method to defraud factoring companies. It takes a fairly complex system of deception which I won’t even bother to describe here. Suffice it to say, it’s kind of like an in-house Ponzi scheme.

Oh well, the image I have of the squeaky clean factoring indistry is shattered. But wait! Maybe this is a strictly British problem. Maybe the U.S. factoring industry is squeaky clean after all. Maybe I’ll just stop reading the news so I don’t read anything that might disappoint me.

Factoring assets. Factoring Invoices. Factoring receivables. No matter what you call it, those involved represent all that’s good and pure and virtuous about the financial industry. At least compared to those slimeballs involved in mortgage backed derivatives.