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MCA: A Guide For Business Owners Seeking Capital

Financial education written on a blackboard.

In today’s increasingly uncertain economic environment, a business owner’s ability to both survive and thrive depends heavily on making smart decisions.

By investing time and effort into the financial education of their borrowers—especially when it comes to the available funding options—alternative lenders can better position their SME clients for sustainable success.

As such, we’ve developed a detailed financial education guide for one of the most in-demand and versatile SME lending products: merchant cash advances (MCAs).

The goal of this article is to provide MCA funders with an asset they can share with their clients and prospects to better prepare them for the merchant cash advance experience.

Understanding the MCA Process

Although not technically a loan, MCAs follow a similar application/review process.

Here’s what business owners can expect:

  1. Application: the first thing business owners will need to do is complete the MCA application. Most times, this will be facilitated by a “broker” (definition to come below), and the SME will provide their documents directly to this individual. Requested documentation depends on a number of factors, including time in business, credit score, cash flow, and industry. At a bare minimum, a funder will require your personal and business information via the application and three months’ worth of recent bank statements.  Additionally, they may ask for a copy of your driver’s license or valid ID, a copy of a voided check, and proof of business operations. 
  1. Evaluation: the underwriting process begins—i.e., the funder determines whether the SME meets the credit eligibility criteria and has enough cash flow to effectively manage new debt. It’s generally a quick process that takes just a few hours. An analysis of the SME’s “creditworthiness” could mean one or more of the following (depending on the funder and the types of SMEs they service): soft personal credit pull, soft business credit pull, personal and business background checks, bank account verification, Secretary of State website checks (to verify time in business), and Google searches.
  1. Approval: once approved, the business owner must review and sign the MCA contract, which lays out the specific conditions of the cash advance, such as the factor rate and repayment timeline (more on both of these below). Depending on the state, the SME may also be required to sign a disclosure document ahead of signing the agreement. This is the case in CA and VA today, with additional states issuing similar requirements in the coming months. Read our disclosure regulation write-up to learn more.
  1. Funding: the MCA funder will provide the SME with a lump sum via wire transfer. Often, this occurs in as little as 24 hours, and the SME can use the cash freely for their business needs. Financing will occasionally occur via ACH, but this is not typical as it takes more time to clear. 
  1. Repayment: the SME makes daily, weekly, or monthly repayments. Note that the SME is not literally making a “repayment,” as the funds are automatically debited via ACH based on the terms of the contract. The specific amount will depend on several variables, including factor rate.

It’s essential to everyone’s success that throughout the process SMEs carefully review and understand the terms of their agreement. This goes a long way in setting expectations and ensuring that they make an informed decision that aligns with their financial capabilities.

Evaluating MCA Agreements

When it comes to alternative lending, MCAs are known for being fast and flexible. And yet, the terms/conditions may be confusing to SMEs not familiar with the world of alternative financing.

Here’s what to look at when reviewing MCA agreements:

Factor Rate 

An MCA repayment amount is mainly based on the Factor Rate. This is the number that determines how much the MCA will cost. It’s expressed as a decimal, and it usually ranges between 1.1 and 1.5.

Let’s say an SME applies for and receives an MCA of $25,000 at a Factor Rate of 1.2. For the whole MCA, the SME will have to pay back a total of $30,000 ($25,000 x 1.2).  

The repayment schedule (i.e., daily, weekly, or monthly) will depend on the terms of the MCA agreement. Note that while the payment amount was traditionally calculated as a percentage of an SME’s credit card sales, it is now typically a fixed amount agreed upon in the MCA contract.

In most cases, if unforeseen circumstances arise (i.e., cashflow dips for an extended period of time) the SME can reach out to the funder to see about modifying their terms.

Additional Fees

The factor rate does not typically cover additional charges that an MCA provider may levy, such as underwriting or administrative fees.

These fees can stack up and make a dent in the offered cash advance—not to mention the SME’s cash flow.

To avoid surprises, SMEs should ensure they know the total cost of all financing options before signing the dotted line.

Positions and Stacking

Although there’s no limit as to how many MCAs a business can open at once, they should be extra cautious when it comes to taking on multiple advances simultaneously.

In the alternative lending industry, the first MCA held by a funder is referred to as “first position.” As an SME takes on additional advances, funders come to hold “second position,” “third position,” and so on.

The higher the position number, the riskier it becomes for an MCA provider to fund the SME. As such, SMEs will likely be offered less favorable terms in second and third “positions” when compared to their first cash advance. 

It should be noted that “Stacking” is the norm in the industry. However, SMEs should strive to find a funder that takes a sustainable approach to MCA deals—one that prioritizes everyone’s long-term success even when stacking.

Choosing the Right MCA Provider: Tips for SMEs

Understanding the components of an MCA agreement is important, but so too is partnering with the right MCA provider. This process is typically facilitated through a broker, serving as a vital link between SMEs and providers. Brokers can assist businesses in identifying the best MCA for their specific needs.

However, even with the help of a broker, SMEs should actively participate in due diligence to ensure they select the right MCA provider. Here are some strategies for SMEs to employ:

  • Use Broker’s Recommendations: Businesses should seek and consider recommendations provided by their broker, who has an established network of MCA providers. They can also inquire about the experiences of other SME owners who’ve used MCAs to gain valuable insight.
  • Research Providers: Although the broker performs much of this work, SMEs can also investigate different MCA providers. They can review online testimonials, ratings, and customer satisfaction indicators to identify funders with a record of beneficial partnerships.
  • Look for Flexible Repayment Terms: While brokers can help negotiate terms, SMEs should consider if the MCA providers offer flexible repayment options that accommodate their cash flow. 
  • Assess Customer Support: SMEs should ensure their broker and MCA provider are responsive, knowledgeable, and capable of addressing concerns or answering any questions promptly. Good customer support can provide peace of mind and quick issue resolution.
  • Prioritize Transparency: The broker should assist in selecting a provider that is transparent about rates and pricing, clearly communicating all costs, including factor rates and any additional fees. SMEs should be wary of providers that are vague or hesitant to disclose crucial information.

Ultimately, a great MCA provider, facilitated by a competent broker, will champion the success of their SME clients.

21 Key MCA Terms

The following glossary includes some of the most common terms and phrases used in the MCA industry:

1. ACH: Automated Clearing House

An electronic network used to transfer money and coordinate transactions from one bank account to another. Typically, daily, weekly, or monthly ACH debits are taken from the SME’s bank account to repay the Payback Amount.

2. Alternative Lending

A form of financing that provides funds to enterprises and individuals without them having to go through a traditional bank or credit union. Typical financing products from alternative lenders include merchant cash advance, small business line of credit, term loan, and equipment financing/leasing. 

3. Factor Rate

A number that determines an MCA’s purchase amount. Factor Rates are expressed as decimals and typically range from 1.1 and 1.5 and are multiplied by the Approved Amount to determine the Payback Amount.

4. Funder

A company that provides working capital to SMEs via alternative lending products, often synonymous with a merchant cash advance.

5. ISO: Independent Sales Organization

Interchangeable with the term “Broker.” Intermediary or relationship manager to match an SME with an MCA funder. 

6. Merchant

A company that sells goods or services (typically classified as an “SME”).

7. MCA: Merchant Cash Advance

An alternative lending product typically used to fund SMEs. Because MCAs are usually unsecured, SMEs do not need assets to receive this kind of funding. Delivered as a lump sum, it must be repaid daily, weekly, or monthly.

8. MCA Broker

A sales broker who works for an ISO company and specializes in merchant cash advances. They help connect SMEs seeking capital with an MCA provider. See “ISO: Independent Sales Organization.”

9. Payment Frequency

How often an SME must make a payment on their MCA. Frequency may be daily, weekly, or monthly.

10. Position

Whether it’s first, second, third, or higher, the position refers to the order in which multiple MCAs have been acquired (or stacked) by one or multiple MCA providers.

11. Approved Amount

The total amount of funding that an SME qualifies for.

12. Payback Amount

The total amount that an SME must repay.

13. Disbursement Amount

The Approved Amount less fees.

14. Stacking

AKA “multiple positions.” When an SME opens multiple MCAs at the same time. When MCAs are stacked, SMEs must make multiple payments to multiple funders.

15. Syndication

A process or program whereby multiple funders co-fund a single MCA to an SME. The funders in a loan syndicate share the risk, but only for their portion of the MCA.

16. Term Length

The amount of time in months or payments whereby the client must pay back the merchant cash advance.

17. Wire Fee

The fee that the MCA provider’s bank bills the provider for wiring the funds.

18. Origination Fee

The MCA provider’s fees for originating the funds.

19. Buy Rate

The minimum factor rate that a funder is willing to offer (not provided to the SME in the agreement unless they are in a state that requires disclosure).

20. Commission

The fee earned by a broker or intermediary for facilitating the transaction between an SME and the MCA provider (not provided to the SME in the agreement unless they are in a state that requires disclosure).

21. UCC: Uniform Commercial Code

All commercial transactions in the US are governed under the UCC. A funder may file a UCC lien against an SME if the MCA goes into collections status.

SME Education + Lending Tech = Lending Success

When SMEs understand how MCAs work, they can ask the right questions, understand the potential impact on their cash flow and profitability, and ultimately set themselves up for success.

And their success is your success.

As a funder, you can further pave a win-win scenario by adopting powerful loan management software. Automate your workflows, streamline your process, and enhance the entire customer—all within a single platform.

Request a free demo of Onyx IQ today.

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