Companies that specialize in distribution and drop-shipping face unique challenges on the road to success. For some, factoring can be the key to achieving ambitious growth.

Distribution and drop-shipping functions are integral to the health of the retail sector and the broader economy. The transportation and warehousing sector accounted for approximately 5.6% of the U.S. GDP in 2019 in addition to supporting growth and profitability in many other sectors. 

And the impact of distribution companies has grown in recent years. As e-commerce has become the dominant means of consumer purchasing, customers have come to expect the convenience of next-day or even same-day shipping.

Razor-thin margins

A tremendous amount of work goes into making this type of buying experience a reality, and retailers are increasingly choosing to work with third parties who can handle the complexities of distribution and allow them to stay focused on their core business. 

These distribution companies can be lucrative enterprises, but with highly complex business models and razor-thin margins, they can be challenging to manage. One of these challenges involves maintaining a healthy, predictable cash flow in an unpredictable industry.

Financial challenges

Take the example of an AR Funding client who works with several retailers, including one of the country’s largest home accessories companies. As their distributor of choice, the company fulfills distribution for thousands of different products going to millions of different customers in the U.S. and abroad. In some cases, they also warehouse the products on behalf of their clients. They use a mix of UPS, Fedex, DHL, and commercial airlines to find the fastest route from the warehouse to the customer, and the mix is different every time. Managing this incredibly complicated process effectively requires sophisticated software, excellent distribution networks, ingenuity, and deep experience. 

It also requires cash, and lots of it, to cover significant up-front costs, including warehousing, shipping, and labor. This is the challenge that brought this distribution company to AR Funding originally. The owner was already struggling to keep up with the needs of his biggest customer, and their needs were expanding rapidly as their own business continued to expand. 

Factoring funds growth

He had exhausted his available credit, so more loans were not an option. But he needed cash in order to fund growth. While expansion is important to many businesses, it’s essential for many distributors because high-volume operations help them stabilize profits in a low-margin operation. 

For this owner, growth was also a priority because he had plans to sell the business in the next couple of years, and he wanted to maximize company value.

AR Funding was able to factor the company’s invoices and help the owner get his business on track. 

• AR Funding gives the owner cash for 92% of the face value of the invoice as soon as it is approved by the customer. (The balance is paid when the invoice is paid.)
• The owner can use the cash for any purpose, with no covenants or limitations, including paying vendors faster to receive valuable discounts.
• The more the owner bills, the faster the business grows. Every time the business invoices for more work, it frees up more cash to fuel growth, creating a virtuous circle.

By using factoring as well as business loans, the owner was able to accelerate growth, improve profitability, and turn the company into an attractive acquisition target sooner. 

He has now sold the business and launched a new distribution company to start the process over again. And this time, he is using factoring right from the start.

Is factoring right for your distribution company? 

While factoring helped this AR Funding client successfully expand and sell his distribution company, not every company of this type is a good fit. For example, a small distribution company that has no plans for rapid growth and has margins of 10% or less may not see much benefit in factoring. This is because the factoring fee would narrow their margins even further, and if they’re not using the cash to fund growth, it wouldn’t be a worthwhile trade-off. 

The distribution companies that see the best value from factoring share these characteristics.

• They are larger companies that focus on high-volume business.
• They aim for a markup of 12% at a minimum. 
• Rapid growth is central to their business plan.

If your distribution or drop-shipping company fits this profile, factoring could help you achieve your business goals. To learn more, talk to a factoring specialist in your region.