If there is anything that the pandemic, the Great Resignation and the resurgence of inflation have taught us, it’s that what we think is a sure thing just might not be. That includes the cash flow of a business. Many companies have budget gaps. Newer businesses can have it even worse. Companies which don’t yet have many clients may offer more advantageous terms to try to bring in more business. Sweetening the pot can help overcome a client’s initial skepticism. Just like a starter vendor, a startup may be offering Net 30 terms.
Offering Net 30 or Net 60 or even Net 90 terms is a great strategy to develop business relationships. But a company ends up with a lot of time between providing a good or service and getting paid for it. But in the meantime, a business’s bills have to be paid, including payroll, which must be met no matter what.
What are merchant cash advances?
An MCA technically isn’t a loan. Rather, it is a cash advance based upon the credit card sales of a business. A small business can apply for an MCA and quickly receive an advance deposited into its account. The company can offer Net 30 terms, but not have to wait a month to get paid.
Businesses that can benefit the most from merchant cash advances
A merchant financing program is ideal for business owners who accept credit cards and want quick and easy business money. An MCA program works to help them get financing. It is based on cash flow as can be verified by business bank statements and nothing more. As a result, lenders in general will not ask for any burdensome document requests.
This is unlike what most conventional lenders demand, such as financials, business plans and resumes. With MCAs, a business’s credit card receipts and business bank statements do all the talking.
How MCA programs work
MCA providers don’t weigh credit scores and risk like bankers do. A merchant cash advance company looks at a business’s daily credit card receipts. This is to determine if a business can pay back the funds on time. In simplest terms, a business sells a fraction of its future credit card sales in exchange for immediate payment.
The small business owner and MCA provider agree on the size and term of the advance, the holdback and the payback amount. A holdback is the portion of daily credit card receipts that will be withheld to pay back the MCA.
There’s one charge entrepreneurs should know about — the factor rate. Normally, a business utilizing a merchant cash advance will pay back at least 20 percent or more of the amount borrowed by them. The factor rate is this percentage. The holdback amount that a business pays every day (a percentage of sales receipts) differs from how much it is to repay the entire advance.
Upon agreement, the advance is transferred to the business’s bank account. The business will then use a future portion of credit card receipts to pay back the provider. This holdback will remain in effect until the advance is finally paid in full.
Being able to access a business owner’s merchant account bypasses any need for collateral, unlike with traditional small business loans. Since repayment is based upon a percentage of the daily balance in the merchant account, the more credit card transactions a business does, the faster they can repay the advance.
MCAs are percentage-based. So if transactions are lower on any given day, the draw from the merchant account will also be less. This means that during times of slow business, the business’s payback is relative to incoming cash flow.
Caveats regarding MCAs
Merchant cash advance rates can be substantially higher than other financing options. Depending on the company, rates can end up being excessively high. As a result, it’s crucial to understand the terms being offered.
Qualifying for a merchant cash advance
To determine approval, the lender will review bank and merchant account statements. Lenders are mainly looking for consistent deposits and a certain revenue amount or higher per year. Lenders will also verify a company’s time in business. This isn’t financing for brand-new startups.
Many businesses have budget gaps due to giving better terms to their clients, or for any other reason. Merchant cash advances are one way to bridge the money gap. But borrowers should understand the numbers and know what they’re getting themselves into. Always ask questions if something is not understood — a good practice when contemplating any form of funding.