A lot of brokers looking to expand their offering and improve their service to customers have yet to take on debtor finance – despite the timing for this being right
It’s a safe bet that by now all brokers have considered integrating additional revenue streams into their services – just about everyone says it’s where the industry is heading.
But while there are many possible offerings to consider, it seems insurance, financial planning and self-managed super fund (SMSF) loans are on everybody’s minds.
In a recent industry survey conducted by The Adviser, these revenue streams trounced all others when brokers were asked what they had integrated within their business in the last 12 months.
It’s easy to understand why – they fit well with the traditional broker proposition and can be quite easy to implement – but if everyone is doing it, how can you stand out from the crowd?
There was a time when a broker could differentiate themselves by offering these types of things, but that time has passed. It has now become necessary to look elsewhere to set yourself apart.
When looking for additional business opportunities, debtor finance isn’t most brokers’ first thought, and that can be a good thing.
According to Frank Paratore, chief executive officer of the Ballast Group, differentiation can be an enormous advantage for brokers. It can allow them to offer a more complete service to their clients, which can lead to more business.
“At the end of the day, it just enhances a broker’s value proposition,” says Mr Paratore.
It’s widely acknowledged that a broker’s primary goal should be to look after their client, as happy clients are loyal clients. Offering more products can be the best way to do this.
“The broker emphasis these days, especially through the NCCP [National Consumer Credit Protection Act], should be to ask the questions that actually assist clients to achieve the best possible outcomes for them,” says Mr Paratore.
“I think the days of simply doing a home loan or a refinance are long gone; the broker now needs to be working a lot closer with their client to establish a real relationship.”
What is debtor finance?
Debtor finance is a financing facility based on the value of a business’ accounts receivable ledger. It can allow a business to unlock cash currently tied up in its debtors to build further revenue.
For many businesses, particularly smaller to medium-sized businesses, cash-flow problems can be a major headache and prevent firms from increasing their revenue. When business is good, owners want to expand, but without cash reserves it can be impossible.
Although deals may have already been done, terms on many invoices can mean it’s 90 days before any cash is received. Debtor finance allows business owners to convert the invoices owed to them into usable cash right away.
David Tate from Cashflow Debtor Finance says that for many companies, debtor finance can be the only way they can afford to grow.
“You can be in a position where you are making sales but you are actually being too successful because you are using up all your working capital and facing a horrible situation where you can’t afford to sell any more products because you can’t afford to buy any more stock,” he says.
“The same applies for labour; sometimes you just can’t afford to keep paying staff when you’re not going to get paid yourself for 60 or 90 days.”
Debtor financing can be a long-term solution or simply a quick fix. Most debtor finance providers offer a number of products and can adapt their offering to individual business needs.
Along with the standard debtor finance facility, many operators also provide what is called ‘spot factoring’ – lending against a single invoice – which is often used to cover costs associated with a large project that are due before income is received.
There are also some exciting products that are new to the market or just set to launch, including real estate commission advances and even products aimed at financial service providers.
While the industry does not fall under the jurisdiction of the NCCP and is largely self-regulated, it is done so very well.
In the past, debtor finance has been labelled ‘last resort’ finance, and described as a life raft for sinking businesses, but Mr Tate says this is no longer the case.
“Things have certainly changed now. Any responsible debtor financing company looking to take on a client these days will have a very close look at their financial statements, and if there are any problems they won’t get involved,” he says.
“If you can’t pay your bills because you’re not making enough money then there is no point in looking at debtor finance because all you are going to do is hasten the problem.”
Why debtor finance?
While it may not yet be anywhere near as prevalent in Australia as it is in other markets, like the United States and the United Kingdom, debtor finance is a rapidly growing industry here, and the time is right for brokers to get involved.
According to the Debtor and Invoice Finance Association, total debtor financing turnover in the September 2013 quarter was $16.5 billion, an increase of 7.2 per cent on the June quarter (see graph below).
The September quarter was up by nearly two per cent on the equivalent quarter in 2012.
According to chief executive officer of ARAP Capital Bernie Kelly, the Australian market hasn’t even begun to scratch the surface yet. He says brokers should look at debtor finance and realise the potential business on offer.
“Finance brokers are so well placed to tap this market as the first port of call for product offering. They just need to position themselves early for the growth in this market. If they get in early and they understand the business then they will reap the rewards very quickly,” he says.
For some brokers, niche areas such as debtor finance can be dismissed as too difficult to get into. Even for a broker already offering commercial services, this type of broking requires additional and specialised knowledge.
Mr Kelly acknowledges this and says it’s important for brokers to have a certain level of expertise before entering the space, and that’s why debtor finance providers often offer brokers specialised training.
Mr Kelly says the training offered by ARAP Capital is designed to help brokers understand exactly what debtor financing is, exactly where the opportunities lie, and who can benefit from this type of product.
While there is no doubt debtor finance is a different beast to a standard loan application, putting in the effort can really pay off. On top of the additional revenue from the debtor finance side of things, brokers can also use the relationships created through this to increase revenue in other aspects of their business.
“What our brokers are finding is that the spin off from opening those doors is allowing them to write further mortgage business,” says Mr Kelly.
In fact, this is one of the major advantages to offering debtor finance. Peter Langham, chief executive officer of Scottish Pacific, says whilst the remuneration for the product itself is great, the possible revenue gained from greater client relationships can be even better.
“Debtor finance is a great tool for a growing business. If your client’s business grows and you have a relationship with them, then you are going to see the benefits,” he explains.
What does it pay?
Improving client relationships will win brokers more business, but broking debtor finance itself also pays.
While payment structures can vary between deals and from one financer to the next, broker payment usually involves ongoing commissions.
Mr Kelly calls ARAP’s remuneration structure a “profit share remuneration”, explaining that “brokers can use our capital to tap into markets and secure clients”.
“We do all the credit assessment and we provide the broker with the back-office support, so instead of making it hard for a broker to get into the market, we say to focus on marketing and the communication with the client, selling and solving the deal … Then, every time an invoice is transacted through ARAP Capital, the broker is paid an ongoing brokerage payment, not just a once off transaction,” he says.
Many providers determine remuneration by looking at every specific deal and considering the risks involved, the strength of the client and the quality of the deal as set out in predetermined remuneration scales.
“Our broker payment is a percentage of the invoices, and the remuneration scales are based on volume, profitability, debtor quality and so forth,” says Mr Kelly. “There is a range of scales so that when a broker is doing a transaction, they know what the overall profitability in relation to that will be.”
Under this type of remuneration system, larger deals don’t necessarily mean a larger payment, which encourages brokers to find the best quality clients in the hope of setting up long-term relationships.
“A broker might find a small fabrication business, for example, that’s only transacting $50,000 to $100,000 per month. But if the debtor client is a really strong client, the broker is remunerated well for finding quality business,” says Mr Kelly.
Debtor finance commissions can be a good source of long-term revenue for brokers, as payments are often ongoing because the client maintains a relationship with the debtor finance provider.
“I have a guy on the books now who is picking up a regular couple of thousand dollars a month from us on a trail – it’s nice money and that’s just from one client,” Mr Tate says.
“That happens because of the way we work and because our clients stay with us for a long time – thus so does that trail.”
Clients in your sights
Not all businesses can benefit from debtor finance, just like not everyone needs a home loan. In the same way brokers target suitable clients for mortgage business, it’s important to target the right companies for debtor finance.
In such a niche market, it’s important to work with the finance providers to make sure you, as a broker, are targeting the right people. Fortunately, providers know this and are ready to help out.
“As a company, we try to educate brokers on our products so that they can identify the opportunities,” says Mr Langham.
He says there are some obvious signs to look out for when targeting opportunities.
“It’s usually a case of a business that is growing and their current facilities aren’t sufficient for their business needs.
“Then it’s about looking at the nature of the business – do they have trade receivables? If they do, there is a strong possibility debtor finance might be right for them,” says Mr Langham.
Mr Kelly says his advice to brokers is always to begin by looking at their existing clients.
“We say to a broker ‘What is your natural market?’ and then take a look at the broker’s existing clients. Invariably these are brokers, and it doesn’t matter what type of broker they are; when they start to look at their database they all say, ‘I have a client in this and in that’,” he says.
“We then work with them and say ‘Okay, this is how to approach the client – here are all the presentation and training skills you need for that broker’.”
Peter Langham, CEO, Scottish Pacific
View debtor finance as more than a short-term tool to ease cash-flow pressures for clients – it is a smart way to help clients grow their businesses. As they grow, the facility (unlike a typical business overdraft) automatically grows with them
Ask if your clients are turning away orders and forgoing growth opportunities because they can’t fund them. Debtor finance is a great option in these situations
Be aware of different business lifecycle phases your clients may be going through. Debtor finance is an ideal option for turnaround, mergers and acquisitions, bank refinancing and start-up situations
Suitable for the client?
Not every business is suitable for debtor finance. It works best for businesses selling goods or services to other businesses on standard trade credit terms – labour hire or transport, for example. Once it has been identified that the business is suitable, the key is to ask good qualifying questions around their situation: Do they have cash-flow issues? How much impact does slow debtor payment have on their business? Have they experienced rapid sales growth, or difficulty paying creditors or the Australian Taxation Office?
Your clients may prefer the facility to be undisclosed to their customers or they may prefer the debtor financier takes on their collections as part of the service. Help them work out which option best suits their business
Larger specialist debtor financiers tend to have the widest range of options, enabling them to tailor solutions to a business’ circumstances. It’s worth investing time to understand the differences between various debtor financiers
Some debtor financiers also offer trade finance, which is an ideal cash-flow accelerator for importers, assisting them with meeting the costs of bringing products into the country. Trade finance can be used in tandem with debtor finance
If your client is using debtor finance, there may be additional opportunities for you. For example, if the family home has been removed from the security equation, they may be able to use it to leverage an investment property
Compare the costs
When comparing the costs associated with more traditional funding options, make sure your client understands the opportunity cost of turning orders away and also the different features of a debtor finance facility, including the lower level of security required (real estate is not normally taken), faster approval times and the flexibility of an overall funding limit that will grow in line with turnover
Choose the extent to which you would like to be involved in the deal. You might meet the debtor financier with your client, or prefer just to make a referral. Most debtor financiers are comfortable to work with a contact name and number and will pay upfront and trailing commissions to referring brokers
INTERVIEW WITH WADE OLDHAM
Owner and founder, Wade Oldham Finance
What involvement do you have with the debtor finance?
Our customers are small to medium-sized businesses typically with sales of $1 million to $65 million. They are streamed across numerous industries. As most of these businesses carry debtor ledgers and have working capital requirements beyond the value of their real estate properties, debtor finance is a practical working capital solution. In reality, it is similar to giving your debtor a discount for paying an invoice early.
How do you find this type of client?
Our commercial customers are referred to me in most instances for equipment finance. Once we have assessed the customer’s immediate needs we can then look at other options to assist the business run its cash flow management more easily, such as debtor finance.
What is the typical profile of someone who needs debtor finance?
A business that provides sales on credit terms, is under capable management, has a growing sales ledger, a well spread client base, is profitable, does not have too many bad debts and has a debtor ledger that pays between 21 and 90 days. In short, pretty much any well run small to medium-size business that sells products or services on trade standard terms, and any business restricted by the value of real estate assets (read family home) as security.
As a broker, what are the benefits of catering to this market segment?
Banks have fallen off this product in recent years, largely because they don’t understand it. There are numerous debtor finance providers in the market. Debtor finance is all they do and they get very good at it and understand it. They understand the importance of cash flow to a small business. The benefit of catering to debtor financiers is often that they will support a business’ cash flow when a bank won’t. If cash flow dries up, it’s all over, so you want a business (debtor finance) partner that won’t let you down.
Why did you get into this space?
It was a logical extension of a full-service commercial finance broker to ensure you service and ‘control’ your customer in order to avoid competition over the customer in the future.
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