There are a good number of posts available with reference to the merchant cash advance business on the internet and major publications like Inc Magazine and Business Week. The viewpoint among these contributors with respect to the charges of a merchant cash advance is that it is high-priced.
It should be understood that there is no masking the charges of this program. Each small business that chooses to do a cash advance should work only with a company that presents All of the of the conditions in writing before any agreement is settled or money is exchanged. Before you sign, request the money you are requesting, the total you are repaying, and the retrieval percentage (or holdback percentage) all in writing.
Explaining Merchant Cash Advance Cost
In terms of this program, cost is defined by the cents paid per dollar borrowed. For instance, a $10,000 advance that repays $13,000 would equal 30 cents on the dollar.
Another way cost is discussed is by price ratio or as a factor. Using the aforementioned illustration, the price ratio or factor of that advance would be 1.30. This translates as when you take $10,000, you multiply that $10,000 by 1.30 which equates to $13,000.
One last way to look at this is the merchant cash advance in its actual form. The lending company is gaining $13,000 worth of future credit card receivables for $10,000. You being the customer take delivery of $10,000 and repay that money plus $3,000. An APR for this product isn’t appropriate because there is no set repayment period and there is no monthly payment. The lending company collects a small percent of your future credit card receivables up till it reaches $13,000.
Explaining the Actual Cost of Borrowing Money
A 30-year home loan for $250,000 at a 5% APR will have a total repayment of $483,136.69. This is $233,136.69 of interest or 93 cents per dollar borrowed which doesn’t incorporate property tax, closing fees, etc. Of course, this is a very, very long term and over 30 years the interest has to build up, right? What is interesting though is that 93 cents on the dollar is deemed to be a really good deal because the APR is only 5%.
Let’s look at a $100,000 business bank loan for 5 years at an APR of 8.5%. The total repayment will be $123,099.70. This is $23,099.70 of interest or 23 cents per dollar borrowed. Let’s also add to the equation that the bank is going to hold a blanket lien against your business and it’s assets plus any additional collateral (including personal property) to protect the loan. While 8.5% or 23 cents per dollar borrowed appears to be an attractive borrowing preference, who is more at risk, you or the bank? And if your company is not able to repay, who will be saved – the bank or you and your family?
How Does Cost Relate to Merchant Cash Advance
Now, let’s look at a restaurant that irrespective of their credit score or business performance hasn’t had the chance to borrow money from a bank since 2006. And, let’s say this restaurant has done seven advances over the last five years with a total amount borrowed being $100,000. And, we’ll say their first deal was priced at 32 cents on the dollar. As they continued to perform, the restaurant was able to work the rate down to 22 cents on their subsequent deals. This would average out to 27 cents on the dollar. This means this particular merchant over the course of five years borrowed a total of $100,000 and repaid a total of $127,000. Pretty close to the bank loan, right? Except without the risk to the borrower.
Individually, the five advances may have been more or less expensive than 27 cents on the dollar, but when you look at all of the advances, you begin to see just how reasonable this program can be. The majority of customers who do a cash advance will do more than one which is discussed in the next section.
Some Final Insights on Cost
The cash advance program is in the category of alternative business financing for a reason. It’s an alternative option for businesses who are not eligible for business bank loans. However, the rationale that a merchant cash advance is usurious and that these providers are avoiding the issue of fees is incorrect.
Merchant cash advance establishments fully understand that these programs satisfy a void in today’s economy and they also understand risk. And, we all have got to understand that risk has a worth. Cash advance suppliers are bringing small businesses the income opportunity to evolve, and they produce feasible access to working capital.
It is projected that between 55% to 70% of users who use this form of financing will do so more than once. How many other businesses have up to a 70% success rate? And, referring to to our case above, when a merchant cash advance is utilized more than once as it typically is, the price of the money becomes that much more acceptable.
Like any choice in business, you really should weigh the opportunity cost of the plan. The final decision focuses on whether you will be saving time, saving money, or generating revenue. Will a merchant cash advance grow and greatly enhance your business? Will having access to working capital save you time or reduce stress? Will a bit more money let you to invest in income generating initiatives?
Better Business Funding is small business funding source specializing in merchant cash advance, working capital loans, and equipment financing. Our success depends on our ability to connect with small businesses and help them understand their options when it comes to borrowing money. Our goal as always is to secure the right financing at the right time so these businesses can grow and succeed.