Pros and cons of trade accounts receivable

Benefits of accounts receivable

1. Trade accounts receivable are not counted on the balance sheet as they are not replaced with their cash equivalent, which improves the originator’s balance sheet.

2. The originator does not have to wait for the receivables to be paid. Thus, the originator can continue to make profits even if the payments are not instantaneous.

3. The securities are rated much higher by rating agencies. This reduces the high interest associated with a lower ranking.

4. Assets and other liabilities can be coordinated, eliminating the need for dividends.

5. It offers investors the opportunity to trade in capital markets with better financing costs.

Disadvantages

1. Trade accounts receivable increase costs. Because receivables can only be securitized if the securitization process is able to realize their values.

2. Due to the high flexibility, the securitization process can be used for anything from credit cards to mortgages. Therefore, a record of achievement in the 3-6 range is required to be an eligible claim pool. In addition, the loan guarantee terms are automatically reduced since the person seeking such a securitization must have a predictable and stable source of cash flow.

Steps to ensure repayment

Stanford and Poor’s Rating Services (nd) provides steps that can be taken to ensure repayment such as:

1. Have clear resolution period – Under normal circumstances, typical trade accounts receivable balances are liquidated within two to three months when balances are relatively constant and all collections are made to service debt. Therefore, investors need to have a clear, structured and agreed settlement period for all trade receivables.

2. Premature Payback Events – In order to increase the creditworthiness of the transaction, prepayment is made to discount the duration of the revolving interest when investors’ cash flow reinvestment becomes significantly less desirable, and this may increase the repayment as a reduction in interest increases the speed of repayment .

3. Cash Flow Allocation – Most trade receivables are based on the borrowing base concept. With this approach, investors are eligible to receive a percentage of the collection equal to the amount invested through the borrowing base. Thus, it increases repayment to all investors on the same terms and extends the total repayment period.

4. Eligibility Criteria – This defines the terms of the pool and restricts investors to high-risk exposures, reducing and potentially eliminating issues related to non-repayment as investors who do not meet the criteria do not participate in the pool.