Merchant Cash Advances
Opens Doors to the Financial World for Many Retailers. The merchant cash improvement industry is growing at an astonishing clip. This growth is because traditional edges are not meeting the needs of small businesses.
This product is very rare. It’s a buy of an asset, not a loan, so we have to use specific language consistent with a buy of an asset, like retrieval rate and discount rate instead of interest rate. A lot like factoring but it’s of a sale that hasn’t however happened.
A cash improvement provider gives merchants a lump sum cash improvement up front. In exchange, merchants agree to pay back the principal and fee, by giving the company an agreed percentage of their credit card sales until their balance is zero. This percentage is between 12%-24%. The payback time-frame is only 5-12 months.
Merchants generally must use the providers’ credit card processor because the improvement is paid back automatically as a percentage of each batch’s proceeds. A small number of merchant cash improvement companies do not require the merchant to change credit card processors. So if this would be a problem, make sure to ask the merchant cash improvement company you are thinking about working with.
Cash advances are very different from traditional funding programs. basically merchant cash improvement providers buy a small percentage of future MasterCard and Visa revenues, and the merchant repays this as a daily percentage of those revenues.
Getting cash from traditional financing institutions can be difficult for some businesses, particularly retail, restaurant, franchisees or seasonal businesses. These merchants most heavily use credit card processing, so merchant cash improvement programs offer a number of benefits.
Why Do Merchants Like It
The cash is usually obtainable more quickly than it is with traditional loans. These programs allurement especially to retail and restaurant merchants not only because these types of businesses can rarely get traditional funding, but also because of the immediate liquidity.
Most cash improvement providers advertise that the cash can be obtainable in about 10 days. Unlike a loan with a fixed rate of interest, amount due and set due date each month, with merchant cash advances the money is paid back as credit card receivables come in.
Merchant Cash improvement programs are cash flow friendly, especially during seasonally slow periods. Traditional loans and leases require a set payment every month, whether the business has made a sale or not. Because payments are calculated as a percentage of sales, if sales are growing, the amortization could be quicker, but if the proprietor experiences some interruption or downturn in business, the payments will be lower.
In most situations, business owners put up no personal collateral and make no personal guarantee.
How Providers Make Money
Finance charges can vary widely, not just from one provider to another, but from one improvement to another. As an example, the range of financing on a $10,000 improvement could be as low as $1500 or as high as $4,000. That’s a 60% difference.
There is no fixed interest rate; the effective interest rate varies depending on the business. If the merchant’s business is doing well and sales are up, the improvement provider collects the money sooner and the interest rate is rather high. Since there is no time limit on paying back the loan, the effective annual rate decreases as the payments are extended over time, although the cash provider typically forecasts a fairly short period for payback, usually less than a year.
There’s no question that the merchant’s cost for this kind of financing is going to come in more than a traditional loan, but it’s pretty much a foregone conclusion that a traditional bank will reject this merchant for their much needed loan.
The merchants interested in a program like this may have a sketchy or distressed credit history. They’ll have things like past tax issues, a list of delinquencies, collection matters, liens or judgments that would be an automatic red flag for a traditional bank. The merchant cash improvement industry caters to businesses that can’t get traditional funding.
A Risk Worth Taking
There is a risk to cash improvement providers and a fairly high risk (hence the higher cost to the merchant for the money), but they use complex models to determine the future likely credit card purchases. They also offer the cash with comparatively short payback periods to help mitigate risk.
Although approval isn’t as difficult as it is for most bank loans, few cash improvement providers will approve new merchants without a history of credit card transactions. already fewer will approve sums larger than what merchants can reasonably expect to earn from credit card transactions in a year.
The provider of the merchant cash improvement takes all of the risk, the risk is high, but since it is paid out of projected future sales, it is typically a risk worth taking. Seasonal businesses that need cash to carry them by lean seasons or merchants who have an unexpected downturn in business (say because of road construction, building repairs or extended illness) might find a need for a cash improvement until business picks up again.
However, merchant cash improvement companies say that ailing businesses are not the only merchants interested in this kind of program. Many types of businesses are often underserved by traditional funding institutions. Take for example a restaurant, it could be a very successful business, but a traditional bank wants to see tangible assets. Perishable foods or used restaurant equipment just won’t make the cut, already if that restaurant is packed every night.
There are many examples of times when owners of healthy small businesses could use cash to help build their businesses but can’t get the traditional funding necessary. These include franchisees who have depleted their savings to buy their first franchise and want to open a second one; merchants whose competitors have closed and have the chance to buy their competitor’s old inventory or move into a new location; expansions; buyouts; or simply the desire to move quickly on a perceived new opportunity.