Tuesday, July 31, 2007

Paying off existing advances

One thing you will see very quickly once you begin selling merchant cash advance products is that you will come across merchants that are already in an existing merchant funding program. Similar to other financial products such as credit cards, mortgages, etc. there exists a large refinance model in the merchant funding industry.

What I mean by this is a merchant cash advance provider will provide a merchant who already has an advance with another provider the funds to pay off their existing advance and potentially have excess funds after paying off their balance. As someone who is selling this product you want to make sure that the merchant cash advance provider who is going to refinance the merchant, will pay the balance on the advance to their "last provider" directly and not to the merchant with the hope that they will pay the provider. The reason being is the merchant may not pay off their old advance and hence violate their contract by having two advances at once. In addition, you as the sales rep can potentially be liabile for something called "torturous interference" meaning that you knowingly helped the merchant violate its agreement with their original merchant cash provider.

The best way to avoid any trouble for the merchant, a sales rep or the new merchant cash advance provider is to ask a merchant if they are currently in a working capital program that requires them to either use a specific credit card processor exclusively or pay off their existing balance should they utilize another type of financing product after they got their initial merchant funding. (In almost all cases, the answer is yes). A responsible way to handle this is to ask the merchant for their current merchant cash advance statement which will show their balance and provide it to the new merchant cash advance provider that will be refinancing them. The new merchant cash advance provider should pay off the old provider directly and everyone will be happy and performing "best practices."

Tuesday, July 24, 2007

Never Use The Four Letter Word

When you were child, you were probably taught to never use certain four letter words. In the merchant cash advance space, there is one word letter word that you never should be using when presenting this product to a merchant, "L-O-A-N."

Any person selling a true merchant cash advance product that is a factoring product, meaning you are purchasing a merchant's future credit card receivables at a discount, you need to understand the difference between a loan and a factoring product such as a merchant cash advance. (Note: there may be some "loan" products offered by companies to merchants that this article may not apply to, so I would check with your merchant cash advance provider whether or not they are offering a loan product or a factoring product. Almost every product I know of in the merchant cash advance industry with the exception of one or two is NOT a loan product). There are various state usury laws (usury is typically defined as the the maximum interest rate allowed by law) that a loan product must comply with.

The first distinction between a loan product and a merchant cash advance is there is no fixed time period with a merchant cash advance. For example, if you walk into a bank, every loan product they offer has a fixed time period - eg. a 30 year mortage, a 5 year auto loan, a 5 year SBA loan, etc. With a merchant cash advance, a merchant is simply agreeing to sell a percentage of their future credit card receivables at a discount and allowing a merchant cash advance provider to collect those payments by taking a set percentage of a merchant's future credit card processing sales. For example, lets say you purchased $20,000 worth of future credit card processing receipts for $16,000 from ten different merchants on the exact same day. And in this example, the agreement called for the merchant to collect 20% of the merchant's future Visa/Mastercard sales until $20,000 was collected and the advance was paid off. Each of the ten different merchants will pay off the advance in ten different time periods - one merchant may take seven months, another nine months, another twelve months, etc. Again, unlike a loan, there is no fixed time period with a merchant cash advance.

Another distinction between a loan and a merchant cash advance is there is no fixed monthly payment. A loan requires a fixed monthly payment amount (or in the case of some mortgages, a fixed bi-weekly amount). With a merchant cash advance, there is no fixed monthly payment as we are taking a percentage of a merchant's future credit card sales. For example, if a merchant's cash advance contract calls for 20% of their future Visa / Mastercard sales and they process $10,000 worth of these sales in Month 1 after taking the advance and $5,000 worth of future Visa / Mastercard sales in Month 2, then the amount they will pay back the merchant cash advance provider will be $2,000 Month 1 (20% of $10,000) and $1,000 Month 2 (20% of $5,000). As you can see, unlike a loan, there is no fixed monthly payment with a merchant cash advance. In addition to a legal difference, there is also a cash flow benefit to the merchant with a merchant cash advance compared to a traditional loan. That is, if their sales slow down, the amount they owe their merchant cash advance provider slows down since it's a percentage of their future sales that determines how much they pay back each month on their advance. With a bank loan, a merchant has to worry about making a fixed monthly payment to the bank regardless of how sales were that month. If they can't, they can default on their bank loan which can include the bank eventually foreclosing on personal assets that the borrower may have had to pledge.

Another difference between a merchant cash advance and a loan is there is no interest being charged with a merchant cash advance. A loan has an interest rate, while a merchant cash advance does not. A merchant cash advance involves buying future credit card sales at a discount. For example, if you are buying a merchant's future credit card sales for .75 on the $1, then you would purchase $10,000 worth of future sales for $7,500. You are buying these sales at a 25% discount, this is a discount (remember, this is a factoring product), not an interest rate. One of the reasons why there is no interest rate is because as discussed above there is no fixed time period to collect these sales purchased, it can take seven months, twelve months, fifteen months, etc. The time period it will take to pay off the advance is unique for each merchant as it is based on how much credit card sales the merchant actually processes
since they received the advance.

One of the key differences between a loan and merchant cash advance is their is no recourse with a merchant cash advance. One of the key attributes of a loan is there typically is a personal guarantee. A true merchant cash advance should be a purchase transaction and there is no recourse to the owner should they legitimately go out of business. With that said, this is not a free for all for fradulent merchants to take a cash advance and not pay it back. Most merchant cash advance provider contracts will have a fraud guarantee on the merchant personally. Some examples of a fraud guarantee where a merchant can be held personally liable are if a merchant misrepresented the information on their application that the merchant cash advance provider used to approve them, sells their business without paying off their balance on the advance, and/or disrupts the merchant cash advance provider's ability to collect the future credit card sales they purchased (this can be done by changing compatible processors, blocking ACHs, changing bank accounts, etc.)

In conclusion, when selling a true merchant cash advance product, you should be using the correct terminology such as "advance" instead of "loan" and "discount" instead of "interest." If a merchant asks you what is the difference, you should be able to point out the attributes of a merchant cash advance discussed above which are no fixed time period, no fixed monthly payment, no interest rate and no personal recourse.

To properly inform the merchant the type of product you are selling, I recommend putting a notice on your website, marketing materials, etc. that indicate it's a merchant cash advance. Something to the effect of "Note: This is a merchant cash advance factoring product and not a loan product."

Sunday, July 22, 2007

Controlling The Cash Register

Many people that sell cash advances have approached me and asked "what kind of business works best for this product." I think the best way to answer that question is by answering the question "what type of businesses don't work well with this product." What I mean by that is while every merchant cash advance provider has different underwriting policies, they all typically are purchasing future credit card processing receipts at a discount. And if a merchant cash advance provider continuously provides working capital to businesses where they can not collect those future credit card processing receipts, it's common business sense to realize that merchant cash advance provider will not be in business for long.

It would make common sense to market to industries that will have a higher and easier chance of being approved by underwriting. The number one type of business that I would avoid marketing to is one that can "control the cash register." (It's a term I used to describe when the merchant can easily advise on the fly to the customer what payment method to use - whether it's a specific credit card type, or even paying by check or cash). What I mean by that is most merchant cash advance providers are repaid by collecting a percentage of a merchant's future credit card sales. If a merchant can easily control the cash register, there is a greater chance they will attempt to defraud the merchant cash advance provider.

Lets take an example of two merchants, one is a home improvement contractor that only receives 2 credit card payments a week (batches out 8 times a month) and the other business type is a liquor store that accepts on average 40 credit cards a day (batches out 20 times a month). The contractor processes $60,000 a month and the liquor store process $30,000/month in Visa/Mastercard sales from their customers. The contractor's average ticket is $7,500 and the liquor store's average ticket is around $37.50. Now lets assume both merchant funding contracts of the general contractor and the liquor store indicate that the merchant cash provider purchased 20% of all future Visa/Mastercard sales until they are paid off. That would mean on average everytime the general contractor made a credit card based sale, the merchant cash advance provider would be entitled to $1,500 (20% of the $7,500 average ticket) and everytime the liquor store made a credit card based sale, the merchant cash advance provider would be entitled to $7.50 (20% of the $37.50 average ticket).

Now, lets keep in mind the $7,500 and $37.50 in each example due to the merchant cash advance provider everytime the merchant is supposed to make a Visa/Mastercard sale while I discuss "controlling the cash register." Because the general contractor typically only has one customer a day (if that) that is paying by credit card, isn't in a retail environment and typically isn't delivering the product to the customer right away (future delivery) they can easily say to the customer, "when the job is done, if you pay me with an American Express card or check I can deduct 10% off the price." What the contractor has done here is saved $750 in their cash flow(normally 20% of the transaction or $1500 would have been paid back to their merchant cash advance provider if a Visa/Mastercard was used by the customer to make payment), but instead $0 is paid back to the merchant cash advance provider because the merchant circumvented the system by advising the customer to use an American Express card. By doing so, the merchant "saved" $750 (they gave 1/2 in discount to the customer) in that case and in turn they are deceiving the merchant cash advance provider that previously gave them working captial. The merchant cash advance provider did not get the 20% of this transaction ($1,500) they were entitled to that would have went against the merchant's balance and to the merchant cash advance provider.

Now lets look at the liquor store example, typically it can be in a fast paced environment, people don't have checks on them, there is no future delivery (they customer gets the end product typically at the time of sale) and we have found merchants are less inclined to default on their agreement with their merchant cash advance provider in a low ticket environment to ask their customers to use a card other than Visa and Mastercard that would prevent the merchant cash advance provider from receiving their percentage of future sales they have made. They would have to do 100 defaults on their merchant agreement at $7.50 (meaning to instruct the customer not to use a Visa/Mastercard to make a purchase, but another credit card or payment type) each to equal the 1 time the contractor has to do it to bypass the $750.

To sum it up, if you are spending marketing dollars to market this product, the number one type of business I like to avoid are ones that meet the criteria of the general contractor mentioned above - large average ticket items, low number of batches each month (I typically consider low under 12- 15 times a month) and future delivery (where the customer is coming back in most cases and can prearrange a payment method).

With that said, you want to focus your marketing efforts on those businesses with low average tickets, batch frequently (at least 12 - 15x a month on average) and have no future delivery of their products/services - basically where the merchant can not "control the cash register."

Saturday, July 21, 2007

Welcome to the Merchant Cash Advance Blog

The merchant cash advance industry has evolved into a rapidly growing industry since the product was originally introduced almost twenty years ago by such pioneers as Litle & Co, Clever Ideas, and Transmedia (which merged / acquired companies like Dining Ala Card into what is now Rewards Network today, the former iDine). Today, there are estimated to be over twenty-five merchant cash advance providers and hundreds of agents, ISOs, and brokers offering the merchant cash advance product through various cash advance providers.

The merchant cash advance product has received even more attention recently as its "sister product" credit card processing is experiencing more competition than ever and the margins on bankcard aquiring are being squeezed tighter than ever. Furthermore, ancillary products to the credit card processing residuals such as selling / leasing of terminals which used to be an upfront cash flow stream for the ISO/agent is now almost non-existent with the introduction of industry wide free terminal programs. Due to a decrease in revenue potential in revenue for ISOs, agents and sales representatives in the credit card processing industry there has been a recent migration of these people entering the merchant cash advance space either as an "add-on" product or completely changing their business model to selling merchant cash advances full-time.

As more and more people are selling this product, capital is becoming more and more readily available to businesses nationwide that may not have access to traditional lending sources. Because a merchant cash advance is typically not a loan, but a factoring product because it's a sale of future credit card receivables, it allows for a provider an alternative underwriting method to provide working capital to merchants that may have not normally qualified for under traditional underwriting formulas.

It is estimated in 2007 alone that $600 million - $700 million worth of merchant cash advances will be provided to help grow tens of thousands of businesses nationwide. With that said, the marketplace has become extremely competitive. One example is on a recent trip to Texas I was dining in a small restaurant. I had asked the owner of the restaurant if he ever heard that he could get access to working capital by selling his future credit card receivables. His response was, "not only have I heard of it, I get at least four to five companies a week trying to sell this product to me in one form or another, either face to face, in the mail, or over the phone."

I have seen various posts / questions about merchant cash advances on various websites across the Internet including credit card processing sites, financing sites, etc. but no destination site that is exclusively dedicated to the merchant cash advance industry.

I hope this will be the beginning of what will be a destination site that will be informative and resourceful for those in the merchant cash advance industry. As President & CEO of one of the largest merchant cash advance companies in the industry, my goal is to take my five years of merchant cash advance experience to educate and inform those that are currently in the industry as well as those that are looking to enter the industry. As this website evolves, I hope it to be a resource for those currently working in the merchant cash advance industry as well as those looking to enter the industry. Items like industry trends, job boards, discussion forums, industry news, etc. will all be part of this merchant cash advance destination resource.

I also encourage you to email me with any questions, comments, etc. about this website and/or the merchant cash advance industry and I would be happy to answer them. I can be reached at dg@amerimerchant.com.

-David Goldin