Commercial Factor Q&A – Surveying the Canadian Factoring Market

As the factoring sector in Canada continues to evolve and adapt in an unprecedentedly challenging (and opportunity-creating) environment, Robert Betteridge, Esq., partner at BDP Law; James Poston, chief sales officer at eCapital; and Kevin Westfall, vice president of business development at Accord Financial stopped by to give us the lay of the land in a preview of their upcoming panel at the IFA’s Annual Conference.

How did the factoring industry in Canada fare during the second year of the COVID-19 pandemic?

Kevin Westfall: From my perspective, I saw the factoring industry fare similarly to the rest of the industry in general. It varied by specialty and/or industry focus. For example, those who focus on transportation were less impacted; their clients and the need for capital remained relatively stable. There were also those who provided support through government-sponsored programs that were able to deploy large volumes of capital backed by government guarantees.

However, I believe the industry, in general, struggled to compete with the vast amounts of stimulus capital available to businesses across Canada. For example, those who might have traditionally been seeking capital to help fund payroll were having the government fund up to 75% of their payroll through the Canada Emergency Wage Subsidy (CEWS). There were also rent subsidies in addition to very flexible and “cheap” money available through various programs, such as the Highly Affected Sectors Credit Availability Program and Business Credit Availability Program.

In addition to the market being flooded with stimulus funds, the banks remained very patient with borrowers. In the early days of the pandemic, most of the banks’ special loans groups loaded up with people in anticipation of a tidal wave of files. With stimulus money propping up many of these businesses, the wave was delayed and banks remained patient.

There was also the omicron wave that forced another lock down, which stalled things further. As I’m sure those in the insolvency industry can attest to, it has been a patient waiting game.

How have factors like supply chain constraints, geopolitical tensions and labor fluctuations affected the market?

James Poston: There is no doubt that global interruptions to the supply chain due to the pandemic and now the war are going to have potentially serious impacts on certain factoring-friendly industries, such as distribution, manufacturing, staffing and transportation. Two industries will see a negative impact and two may actually see increased profitability and growth.

Robert Betteridge: I don't disagree.

Poston: In the case of manufacturing and distribution, we should see an increase in direct material prices, some of which will be passed onto the consumer. However, where they are not passed on, companies can expect to see a squeeze on gross margins, which could dramatically impact their profitability and viability over the short and medium term. Short shipments of product to end debtors could result in higher-than-expected dilution and reduced payments. Factoring companies need to review paperwork with heightened scrutiny in these industries to make sure they are going to get paid on the money provided to purchase an invoice.

Betteridge: I again don't disagree, but query on the underlying credit quality of the payers and/or the subject invoices and/or the quality of recourse (if any).

Poston: This type of environment allows for an opportunity to partner with known experts in the purchase order finance and supply chain finance industries, many of whom will be in attendance at the conference.

Betteridge: I think this is very topical at the moment. Payers have started to “wise up” to what they are “leaving on the table.” I think this is going to be a growing trend.

Poston: However, when it comes to transportation, as we saw in 2021, there will be a continued upwards trend on invoice values and now, with the increase in fuel prices, we will see the average invoice size in this industry continue to climb above already record levels. Staffing companies should also see increased demand, as companies facing increases in direct material costs may look to lay off higher-costing salary employees and choose to work with more flexible temp staffing companies as their production capacity changes and scheduling of labor becomes a key ingredient of success. If you cannot run the machine without the material, why would you want to be paying for salaried labor?

Betteridge: I think this is a very real issue, particularly in our current inflationary environment, but I think you could really see this as a “liquidity crisis” point which would provide opportunity to factor financiers — but you're going to need to be wearing your “big boy” pants.

Westfall: We saw an increase in temporary labor costs with many of our manufacturing clients due to the fact they couldn’t get people to work during the pandemic. Some staff were affected by COVID; others feared going to work. There are others who simply stayed home to ride the subsidy wave. This caused many businesses to hire temporary staff; some have seen benefit in not having to deal with full-time employees and may continue down the path with temporary staff.

What are some of the newest opportunities or market segments in the Canadian factoring market and how have they developed?

Betteridge: If you had asked me this question a few weeks ago, I'd have a completely different view. Oil is back, baby. Oil is back. This said, there is a very real debt liquidity crunch because of the recent-ish policy choices of the large Canadian banks (and the actions of our previous Bank of Canada head, Marc Carney) and the more recent events in Ukraine. How does that play out? I have no idea, but what I think I know is that with the sudden ramp up in oil service and a relative vacuum of traditional credit, there will be great opportunities to provide liquidity to oil field service providers.

Westfall: Agreed. We are already starting to see an increase in activity in this space.

Betteridge: Also note though, there are a few other trends that I've observed: a) “traditional Canadian lenders: in the factoring space – I've never seen this before in the Canadian context; b) “supply chain” financing structures often derived from the various invoice payers (who are presently swimming in cash); and c) other “novel financial products.” For example: insurance-backed financing products, participation products, “quasi-syndication products” and convertible debt/equity products. These are very interesting financing times.

For companies or individual factors looking to break into the Canadian market, what should they keep in mind? What makes it different than markets in other countries?

Betteridge: This is a very tough question. In my view, the factoring market here in Canada is simultaneously absolutely ripe and full of pitfalls and problems. On the “ripe” side we have several markets who are in tremendous need of liquidity that they are generally unable to procure through “traditional” lenders. Here, in particular, see: cannabis producers; oilfield service providers and commodity exporters (of various stripes). On the 'down' side, the O&G market has been pretty volatile; many of the folks who would step up to the plate to be part of a factoring deal are heavily influenced by existing relationships, which is really just a 'barrier to entry' risk but a risk none the same. I can't help but think that the frothy days of factoring past are numbered with entry of “traditional lenders” into the factoring space.

Westfall: Agreed, but the Cannabis industry remains wide open. Anyone who can raise significant funds will essentially have their choice of deals.

How have the first few months of 2022 gone in the Canadian factoring industry?

Poston: So far in 2022 we are seeing more opportunity and growth in transportation and staffing as mentioned. Also, the west is starting to see increased activity as a result of the increasing price of oil given the global situation, which is leading to an increase in oilfield services opportunities.

Betteridge: I strongly agree, but it will not be without risk and peril.

Poston: The start of the year has been building slowly outside of transportation from what we have been seeing. Though I expect as the banks start to review their loan portfolios, we will see a busy second half of the year potentially.

Betteridge: Agree. I think it's going to take a while for “traditional Finance” to catch up.

Poston: The challenge will be to see if once the government subsidies run out are these businesses even viable or has the bank held onto them too long to the point where liquidation is their only avenue for recovery rather than repayment

Betteridge: This is an interesting view, but simply as an observer, I think the bulk of this chaff has already been tossed to the wayside. I think banks are (finally) off the sidelines and are starting to pull the trigger with their book. Of course, this is good and bad, but it's where I think our lending market is at.

What are your expectations for the market for the rest of 2022?

Betteridge: Hell, if I know! These are absolutely unprecedented times. Between the pandemic, the remnants of the Great Recession, the resurgence of oil and gas pricing and the debacle in Ukraine, it's really anyone's guess on what the market might look like for the rest of fiscal 2022, so buckle up! It's going to be spicy. The good news, though, is that there is always opportunity in times of market flux. I think this is the perfect storm of a very real generational market event. It will be the best of times; it will be the worst of times.