Factoring provides financial help to companies to improve their short-term cash needs. The borrowing company sells their accounts receivables to get financial support from the factoring company. A business obtains immediate capital or money based on the future income attributed to a particular amount due, on an account receivable, or a business invoice. An account receivable is money owed to the company from its customers for sales made on credit. For accounting purposes, receivables are recorded on the balance sheet as current assets, since the money is usually collected in less than one year.
Most oil and gas customers ask to pay invoices between 30 to 60 days. Many small oilfield service companies can’t afford to wait for payment for that long. They don’t have the financial capability to pay company expenses as they wait for clients to pay. Some companies handle this problem by delaying the payment of the supplier. However, this strategy can backfire and lead to suppliers refusing to work with you unless you pay quickly. This may put your company out of business. A company can therefore opt to use oil factoring as a quick source of cash for crude oil refining companies that cannot obtain funds from banks. This is because the banks operate under strict internal credit regulations hence it is hard to qualify for a loan. After the company has completed a job for their customer and created an invoice for the work, a factoring company will purchase the invoice and pay a certain amount to the borrowing company on the same day. The factoring company holds the remaining amount in an escrow account until the clients make the payment. When the factoring company receives payment, the borrowing company gets the remaining funds minus the factoring fees. Oil factoring has become a powerful tool for expanding oilfield companies without debt and dilution of equity. For a company to qualify for this type of funding, it must meet a few requirements:
- Have creditworthy commercial client.
This assures the factoring company of a cashback hence more gains for them and good commercial credit.
- Invoice diversification and factoring lines that are based on customer’s credit and payment history.
Most factoring companies know these clients hence it is a non-factor to the company.
Advantages of oil factoring to the oilfield company.
- Fast Funding.
Once an account is set up and active, the factoring company can provide same-day funding of invoices. This funding should help fix cash flow and provide resources to pay expenses and take on new clients.
- Accounts Receivables Management.
It ensures your invoices are paid on time and the relationship with your customer is not damaged.
- Competitive Rates.
Factoring rates are customized to fit your business needs; rates normally range between 1-5% depending on various factors.
- Growth Opportunities.
Factoring lines do not have fixed limits but the limit is based on the value of the company’s receivables. This means it is easy to expand with increased and quick funding.
- Credit Analysis & Risk Management.
The factoring company makes credit and payment information available, so the oil company makes the right choice when working with new customers.
- Online Reporting.
Some factoring companies offer 24-hour access to account activity and reports, enabling easy and remote management of the account.
- Industry Expertise.
The factoring companies work in a variety of segments in the oil and gas industry, hence have acquired deep insights on the industry as well as technical know-how.
Disadvantages of using this mode of funding.
- It costs more than the bank offered financial solutions.
Rate is determined by the factor’s risk of buying your invoices and your financing volume. Low-risk customers financing large volumes of sales will get the lowest rates. Higher-risk clients financing low sales volume will get higher rates.
- Factoring solves only one problem, cash flow shortfalls due to slow-paying clients, unlike loans and lines of credit can often be used for several things.
- Finance companies don’t handle bad debt, if some invoices will not get paid, bad debt goes back to your company so you can assign it to an attorney or a collections company.
It is important to choose the best factoring company that can customize its services to suit your company’s preferences. This is achieved by familiarizing with the company’s terms and rates, experience in the industry, and list of references if possible. The company can send a quotation to the finance team of the oilfield company, to look at it before the meeting.