Merchant Cash Advance Diminished by Growth of Payment Technologies
May 15, 2011
Technology will be the end of us all
When bank lending dried up, Merchant Cash Advance (MCA) providers fulfilled the need to keep America’s small business owners going strong. By withholding a percentage of each credit/debit card sale automatically, there was no need to worry about a client’s ability to make payments. Without the risk of late payers or non-payers, MCA providers singlehandedly eradicated credit score from the underwriting guidelines. Or so they thought.
Only a small percentage of businesses in default actually close their doors. Circumventing the MCA provider’s merchant processor or incentivizing customers to pay with cash are issues that have plagued the industry for years. While this would constitute a clear breach in the sale of one’s future receivables, it’s not always a deliberate act of malice. However, there is a direct correlation between the frequency of breaches and *surprise* declining credit score.
But in the instances without malice, such as if damaged POS equipment prevents the flow of processing, there’s not much a MCA provider can do other than help fix it. These gaps in collection affect the bottom line and lead to upward pressure on costs or tighter restrictions on approval, two outcomes that nobody wants.
And as if there already wasn’t a strain, changes in payment technology are quickly eroding the MCA industry’s turf. The credit/debit card sales of a business aren’t exactly limited to one of these:
Now there are options, lots of them. In today’s world you can accept electronic payments with almost anything, a conundrum for MCA providers aiming to collect a percentage of all of it. And how about those routine PCI compliance upgrades? There are countless businesses with a basement full of old credit card machines that could be plugged back in, put back into service, and freely used to circumvent their financial obligations.
Take this clothing retailer for example. She qualified for an advance of only $5,000 but when it came time to convert the merchant account, the process wasn’t so easy:
Nearly all of the transactions conducted inside the store happen through the touch screen POS. The merchant statements reflect consistent historical sales of nearly $4,800 per month, instilling the belief that the future won’t be much different. But when the customer lines get too long, there’s a backup credit card terminal that they pull out from under the counter that still has an active account with a previous processor. Around the holidays, they dig out the old Tranz model terminals from the basement and use them too. For street fairs and trade shows, they attach their Square to their iPhone and process on the go. And when it comes to their website and Ebay, PayPal is their preferred method of payment.
This doesn’t mean the touch screen POS won’t continue to see $4,800 worth of action per month, but the situation doesn’t inspire a lot of confidence if the goal is to collect a percentage of their credit/debit card sales. What if they occasionally use Square inside the store? What if phone orders are punched into PayPal? These things may happen inadvertently or simply because their customers demand it.
To firmly secure a purchase of future sales, the MCA provider would need to do the following:
- Convert the touch screen POS system (which will very likely come with a fee from the POS reseller)
- Reprogram their backup terminal
- Reprogram all the old terminals collecting dust in the basement
- Force the return of the Square and replace it with their own iPhone processing attachment
- Delete PayPal from the HTML of the business’s website
- Instruct them to stop conducting business on Ebay
- Cancel the PayPal account altogether and replace with an authorize.net virtual interface or something equivalent
That’s a lot of effort for $5,000 but doing anything less is a gamble. That’s another reason why MCAs are more expensive than bank loans. Without set fixed payments, they are extremely vulnerable to economic ups and downs and now the explosion of payment alternatives.
Rather than stay ahead, the industry is becoming more fractured as evident by the rise of new funding sources such as Kabbage, that lends against future PayPal sales. It’s innovative but vulnerable. Kabbage depends on the success and status quo of PayPal for survival, a characteristic that is not likely to carry them far. Similarly, MCA providers are dependent on withholding a percentage of future sales, an uneasy task in a world where the point of sale itself is changing.
Innovation in the MCA space has gone as far as automated bank debits and a lockbox. One depends on the merchant’s use of a single bank account and the other is equally exposed to the issues we’ve discussed.
Which of course begs the question: If electronic payments are becoming more elusive to capture, how can the MCA industry survive? The obvious answer is to transform the product itself into a loan. Secure it against collateral and have the credit bureaus at your disposal. Breaches will become far less likely and electronic payments less elusive when there are actual consequences involved. It’s a dreaded word and one MCA representatives have spent years avoiding, but according to the state of California, it’s probably a loan already anyway.
As MCA providers struggle to keep up with payment alternatives, banks are wondering when we’ll all wake up from the “it’s not a loan” euphoria. If the goal is to provide capital and get more back, reprogramming a terminal isn’t going to cut it. How many free hours can America Online offer to bring people back to their dialup internet service? Technology changed and the age of AOL ended. So too may the age of Merchant Cash Advance…. at least in its current form.
– The Merchant Cash Advance Resource
Merchant Cash Advance Forums Goes Quiet
March 31, 2011
The Merchant Cash Advance Forums is an old discussion board for those working within or looking into the Merchant Cash Advance industry. On March 25th, 2011 the Forums implemented stricter account policies that now require members to submit detailed information about who they are and who they represent. This includes:
- Real name
- Company you work for
- Company’s address
- Your phone number
A public notice on the forums states “For the sake of adding value and integrity to the MCA Forums, an additional layer of moderation as well as basic data collection have been implemented. Members MUST now complete their private profile with their basic contact information. This required information is confidential, and other members will NOT be able to view it. Data collected is NEVER sold to third parties remains strictly confidential.”
And since this went into effect, the bustling discussion board has been for the most part a ghost town. While a few active participants proudly make their company affiliations known, most users hide behind a nickname for privacy. This certainly makes sense from a personal standpoint (the internet is dangerous!), but it also helps protect employers from liability should one of their employees openly discuss their opinions.
For example: John Doe states his affiliation with ABC Funding Co. upon registering with the site and posts “tHe iNdUsTrY iS dOoMeD!” Many of the other forum members may interpret that to mean ABC Funding Co. is in serious trouble or because of the way John Doe posts, that ABC Funding Co. does not employ very intelligent people.
Though there is an explicit promise of confidentiality, this industry has bred many stone cold skeptics over the years. If Facebook can get someone in trouble, anything can.
Of course, we may be wrong completely and the dull conversation could be a result of more time spent working, there being little to talk about, or an unwillingness to talk as the news of what is happening in California spreads.
This is by no means an attack on the MCA Forums. We used to check in on it pretty often. We recommend anyone in the MCA, payments, or banking industry to sign up to for DailyFunder.com now as of 2013. Just be careful. Anything you post on the internet can be linked back to you by someone, somehow.
Kabbage: The Merchant Cash Advance of the Online Business World
January 5, 2011
Show me the Kabbage! Kabbage offers working capital to Ebay sellers that have difficulty qualifying for a bank loan. 
They describe their financial product as an advance and funds are collected back automatically via the seller’s PayPal account. Sound strikingly similiar to something else?
Kathryn Petralia, the COO of Kabbage provided details in an interview with practicalcommerce.com. Funding ranges from $2,000 to $15,000 and approval is based on the following factors:
- Minimum 1 year in business
- Historical Ebay sales volume
- Historical PayPal account activity
- Credit score (although they are flexible)
- Business type
- Chargeback history
Petralia describes the cost as fee based, not rate based. “So it’s a maximum six month period that an advance can be held by a merchant and all of the merchants have to enroll in auto-payback system via PayPal. We automatically take a percentage of the initial advance amount every month. So the idea is in no more than six months, this sum of money will be paid off. A business will not be approved for an amount they cannot payback in that timeframe.”
Take away the fixed timeframe and we have all the signature features of a Merchant Cash Advance (MCA). The term loan, is even for the most part absent from Kabbage’s website. It’s difficult to overlook another feature of Kabbage, the ability to obtain funds in 10 minutes.
It’s easy to see if you qualify for an advance with Kabbage. Do you have about 5 seconds to spend with us? Simply enter your eBay marketplace ID and we will start the process. If you have sufficient activity and a great history of selling on eBay, we will then ask you to complete our application. You can go from eBay ID to cash (in your PayPal account) in as few as 10 minutes!
10 minutes? Traditional MCA funders don’t move THAT fast, nor should they. There’s a few things that alternative funding sources have learned since the financial crisis, and that’s not to go overboard. Funding in 10 minutes is great for the business owner, but doesn’t give the funding company any time to actually underwrite the deal. There’s a few questions we would like Kabbage to answer or consider.
- Do you ask where your applicants store their inventory?
- Is drop shipping an acceptable business model?
- Do you ask applicants if they’re current on their business property or home? If they’re renting a location, this isn’t going to show up on their credit report. If they’re on the verge of eviction, how would you know?
- Do you require contact information for any of their suppliers?
- Do you perform a criminal background check on your applicants?
- If the business conducts sales on a separate website in addition to their Ebay store, what’s to prevent them from discontinuing their Ebay operation while a balance is outstanding?
- What is the recourse in the case of default? What collateral is there?
- What if a business stops using the designated PayPal account and starts using another one. Are there any worthwhile deterrents?
- What if Ebay changes how they conduct business in a way that prevents or decreases the sales capability of their sellers? Are you prepared to adapt?
Though Kabbage is not exactly a Merchant Cash Advance, it’s close enough that we should welcome them to the community. A few tips for these folks though. The more automated the approval process, the higher the default rate. Does a business really need funding in 10 minutes or less? Also, the less grounded a business is, such as a long term lease in a brick and mortar location vs. an Ebay store, the less likely they will survive in the long run.
Good luck!
– The Merchant Cash Advance Resource
Merchant Cash Advance Outlook for 2011
January 2, 2011
Happy New Year! Over the past few weeks we spoke with many Merchant Cash Advance(MCA) industry professionals, read blogs, and scanned forums to find out what is predicted for 2011. Here is what we learned:
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The number of businesses facing tax liens will rise, making it increasingly difficult for them to obtain a traditional MCA. Their only resort may be “starter” or “decline” programs, which come with low capital and high costs.
Credit card processors(CCPs) will venture into funding their own clients. Over the past few years, CCPs were a necessary third party to a MCA transaction. The CCP would split the business’s batch to allow the MCA provider to collect on their purchased receivables. Their years as a third party have granted them incredible insight into the funding business. In the latter half of 2010, some CCPs tested the waters and funded businesses on their own. In 2011, we will begin to see the role of MCA provider and CCP gradually merge into solitary entities.
Resellers of MCA began to drift away from their dependence on funding providers in 2010. In 2011, there will be a surge in the number of resellers funding businesses on their own. The MCA industry will become largely decentralized and may give rise to new challenges.
Decentralization will lead to greater competition and create downward pressure on costs. Businesses stand to benefit by the likely trend of decreasing retrieval rates and factor rates.
Businesses hanging on by a thread are less likely to obtain funds in 2011. Bank loans were never meant as a means to stave off bankruptcy and neither is a MCA. Most detractors of the MCA industry were business owners on the verge of bankruptcy before obtaining capital. This is not a lifeline. Good businesses grow, bad businesses fail. That’s the way it has to work in order for the economy and capitalism to be functional.
The Federal Reserve’s 12 cent debit fee cap may negatively impact resellers that depend on merchant residuals.
The MCA industry will continue to use less expensive means of marketing. Expensive regional trade shows are becoming less popular and UCC hunting is on the rise.
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2011 is yet to be told. One thing is for sure, MCA providers are not unlike the businesses they fund. It’s a tumultuous economy and there is no guarantee that we’ll all still be standing in 2012. Remember those who have come before us (look at the bottom of this page). Much luck to all!
-deBanked
