Businesses will usually have the resources and expertise to undertake a contract, but lack the proper funds. As a result, companies lose contracts and success opportunities. Contract financing allows businesses to receive advanced funding on awarded contracts that are still incomplete. That said, businesses will still need to use their money to prepare and execute a project.
For example, a business may need to source funding for the initial tasks when starting a new project. These typically include procedures such as purchasing materials or performing data analyses. But, clients can switch to competitors, canceling the contract when a business fails to raise the sufficient funds.
Contract Financing- What is it, exactly?
Contract financing allows businesses to access business loans against already won contracts. In such cases, lenders consider a client’s creditworthiness over the business’s credibility. If they find it satisfactory, lenders will approve the funding request. However, lenders are keen on thoroughly analyzing contract terms, including contract rates, payment milestones, and timelines.
Contract financing solutions are pretty different from traditional bank loans. In simpler terms, it is a contracted advance payment, a type of unsecured business loan that does not involve any collateral. Contract financing companies lend money according to the contract they signed with the business.
What Qualifies a Business for Contract Financing?
Although nothing like traditional bank loans, contract financing is still a type of loan. Since contract financing is unsecured, it involves much more risk than other types of loans. For that reason, lenders are extra careful so as to avoid being scammed and looted.
Here are some factors that qualify a business for a contract loan.
Monthly Billing
A business’ monthly billing payment is one of the top, most notable factors lenders consider when evaluating a business for contract financing. So, the loan amount largely depends on the business’s average monthly billing.
At this point, it is important to note that contract financing companies have nothing to do with how many monthly bills a business pays. Instead, lenders mainly focus on the amount of money a company receives from its clients and customers every month.
By looking at the business’s average monthly billing payments, the lender determines whether the borrower’s monthly income is sufficient to pay the loan. While the client is responsible for covering the loan, there’s always a risk that the client is unable to pay.
Experience in the Business
The duration of time in the business is another critical factor contract financing companies consider to determine whether a business is eligible for a loan. After all, working with new businesses presents a greater risk of scams. For that reason, lenders are reluctant to lend large amounts of money to startups.
In contrast, contract loan-providing companies favor old businesses that have been working in the industry for some years. At a minimum, lenders give loans to businesses that have been operating for at least six months to a year. However, the minimum operation period varies from contract financing lender to lender. The experience comes in handy with the SBA 504 loan process.
Credit Rating of the Customer
In contract financing, the business does not pay the loan itself. Instead, businesses only source these cash advances, and their customer for the specific project is responsible for paying the contract financing company. Customers cover the loans once the lender has issued the funding contract for the business.
Therefore, it is critical for contract financing solutions to check the customer’s business rating and credit history, and a few other factors. Most of the time, financiers advance up to ninety percent of the funding contract’s invoice amount to the business.
This practice is especially prevalent in government contract financing. It allows lenders to determine whether they can trust the customer with the money and if the customer will make invoice payments without fail.
While customer business rating and credit history are overlooked in other types of loan funding, it is not the case with contract financing.
Positive Work Track Record
The lending parties also require proof that a business has a well-established reputation as a contractor. It does not simply mean that a business should be operating in the industry for a while. In fact, businesses must have a clean record of completing projects per the contract’s duration for completion of a project.
A positive work record helps the lender trust the business with the project. This way, contract financing companies can be sure that contracted projects won’t be delayed. It’s a cycle, after all. A delay in project completion delays the invoicing process that extends the period in which a financing company will receive the money back.
How to Get Contact Financing
Here is a step-by-step guide on how businesses can obtain contract financing.
Create a Normal Contract with the Customer
Business first needs to establish a contract with their customers as they normally would for other purposes. This contract between the business and customer goes to the contract financing company, so the lender knows how much loan they need.
Present Qualifying Information
To get fund approval, businesses must present evidence that qualifies them for the contact funding. These include project completion history, monthly billing payments, and the customer’s business rating and credit history. That said, a business is not responsible for providing customer details. Financing companies obtain essential details directly from the customer.
Submit Milestone Invoices
Businesses should submit an invoice to the contract financing provider after completing a milestone. As businesses do that, the lenders invoice the customers to recoup the amount they pay to the businesses.
Bottom Line
Businesses working from one project to another do not always have the loans to cover a project’s funds. They may need loans to complete a project; this is where contract financing enters the game. Contract financing companies provide contract loans so the business can continue operating smoothly.
Monthly billing payments, years of experience, customer rating, and positive work record are common factors that qualify a business for contract funding. These factors help lenders determine whether they can trust a company, so they can avoid risks of getting scammed.
