(June 2) A company runs into cash flow problems, and it needs to pay a stack of bills — now, if not yesterday.

The operator goes to a bank looking for a loan and gets turned away as a bad risk.

What to do?

For some produce companies, whose main asset is often its highly perishable inventory, the only way to quick, much needed cash is to sell its accounts receivable to a factoring company, which will charge a percentage — terms can vary, depending on circumstances — for the transaction.

For years, turning to factoring has been seen in many produce business circles as a stamp of failure, a signal of impending bankruptcy, at least as a sign of desperation.

And, even the practice’s defenders understand the stigma.

“Cash flow is everything to a small business, which most of the produce dealers are,” said Don Darnall, executive director of Maryland Food Center Authority, Jessup.

Darnall said factoring can be a legitimate tool. But like any tool, Darnall noted, factoring has limited functions.

Some companies turn to factoring at the wrong time, he said.

“If you’re hurting for cash flow, you’re at a disadvantage,” he said. “If you’re going to really be looking at factoring, in my opinion, you should be doing that when business is good and you don’t need it and you should develop a relationship, almost like a line of credit, trying to negotiate a rate when you don’t need it as part of a risk-mitigation program.”

OK IF IT GOES AS PLANNED

Factoring is a legitimate part of the produce business, said Larry Meuers, a Naples, Fla.-based attorney specializing in Perishable Agricultural Commodities Act cases.

“If the factoring operates the way it’s supposed to, it really isn’t a problem for the produce industry or the company,” Meuers said. “Normally, they say, ‘Well, we’ll take your $10,000 in receivables and advance you, say, 80%.’ The minute you sell, you get 80% of that, so that really increases the company’s cash flow.”

The factoring company can charge a certain percentage for every month the money is not collected, Meuers noted.

“So the other 20% they didn’t lend, let’s say they’re charging 3% a month, which is 36% a year, which is a really high interest rate,” he said. “But if that customer pays in 30 days, they get charged 3%, so then they would get the other 17% back. So that’s not necessarily a bad deal.”

But things don’t always work as planned, and that’s where problems occur, Meuers said.

“Let’s say the produce is bad, and they don’t get paid back $10,000,” he said. “They only get paid back $7,000. So what happens is the company gets itself into a hole and then the factoring company is trying to get themselves paid back, and that’s when it creates all sorts of problems.”

However, Meuers said he wasn’t sure whether factoring was, in general, good for the produce industry.

“I’m somewhat leery of it because I haven’t seen a good history of it,” he said. “And, usually I think the factoring companies are a last-resort finance company. If they can’t get traditional lending from a bank or have assets or somebody thinks their business plan is good enough, they do it at a higher rate.”

STIGMA

Some in the produce industry have a decidedly negative opinion of factoring.

“When I see a factor put in place, I immediately think that somebody is in trouble,” said Matthew D’Arrigo, vice president of D’Arrigo Bros. Co. of New York Inc. “It’s that simple. I know they’re making an extremely weak financial deal, and you know that they’re not able to get financing from a bank. To me, it’s a red flag all the way.”

John Gates, president of Jessup, Md.-based Lancaster Foods Inc., said he had never dealt with a factoring company.

“We’ve had them offered to us, but our customer base is strong, and we don’t need to do that,” Gates said.

He added that factoring does have a legitimate role in the produce business.

“I think it’s probably more with the restaurants,” he said.

David White, president of Fresno, Calif.-based Trinity Fruit Sales Co., agreed that factoring had a legitimate role to play, although he added that his company had no direct experience with factoring.

Factoring can fill some gaps left by PACA, White said.

“If a guy’s business closed up or burned down and we’ve gone through PACA and we’re not getting paid on an account in Canada, which has reorganized, you could turn that over to a factoring company,” White said. “I just don’t know well enough about them to know what their success rate is.”