The Complete Guide to Merchant Cash Advances [2023]

A merchant cash advance (MCA) is a financing option available to businesses, particularly those in the retail or service industries, that generate revenue through credit or debit card sales. It is a type of financing that provides upfront cash to a business in exchange for a percentage of its future credit card sales.

Continue reading to learn how MCAs work, their pros and cons, as well as alternatives.

How Does a Merchant Cash Advance Work?

A merchant cash advance provider gives your business a lump sum of capital in exchange for a percentage of future sales. After applying, the MCA provider assesses the business’s creditworthiness, monthly sales volume, and overall financial health.

Once approved, the company will receive an offer with the terms and amount of the merchant cash advance. This often includes the factor rate, (the multiplier applied to the cash advance), repayment details, and the percentage that will be withheld by the MCA provider. The funds are then directly deposited into the business’s account within a few business days.

Repayment is typically based on a percentage of the company’s daily credit or debit card sales. The MCA provider automatically deducts the percentage that was agreed upon from daily sales until the advance (and fees) are repaid in full.

Upsides

Here are a few advantages of merchant cash advances:

Quick access to cash: Merchant cash advances are relatively easy to procure. You can apply for one online and get approved quickly, in as little as 24 hours. There’s also not much documentation required during the application process.

Flexible repayment: Unlike traditional loans with fixed monthly payments, MCAs offer a more flexible repayment structure. Instead of a fixed amount, repayment is typically based on a percentage of the business's daily sales. During periods of slower sales, the repayment amount adjusts accordingly, potentially reducing the financial burden on the business.

No collateral needed: MCAs are unsecured, which means that they do not require collateral. Businesses that have no collateral to lend against may find this type of financing attractive.

Downsides

Like any type of financing, there are a few disadvantages as well. Here are three:

Often expensive: Merchant cash advances are often more expensive than other types of funding because it is unsecured funding. To mitigate risk, lenders charge higher fees and rates to offset potential losses.

Daily payments can hurt cash flow: MCAs do not come with fixed monthly installments, but charge a percentage of daily sales as repayment. This makes it difficult to predict how much money will go towards repayment, and may place additional strain on cash flow.

Potential debt cycle: Due to the daily repayment structure of MCAs, some businesses might find themselves in a debt cycle. Using multiple MCAs to fulfill the business’s financial needs can lead to continuous borrowing to repay previous advances, trapping the company in a cycle of debt.

What Happens When You Default?

Defaulting on a loan means that a business has failed to meet the agreed-upon obligations of the loan agreement. This usually includes monthly installments, interest payments or other agreed-upon payment terms.

Defaulting on a merchant cash advance can occur when the borrower does not make the required daily or periodic payments or otherwise violates the terms of the agreement. MCA companies are not subject to federal regulations, which means defaulting on a merchant cash advance can have more severe consequences compared to defaulting on a traditional loan.

It's important to note that some MCA companies may request a confession of judgment to be signed during the closing process. This agreement relinquishes your ability to dispute or defend yourself in court if the MCA provider chooses to file a judgment against you.

Alternatives

Before deciding on whether or not your business should turn to merchant cash advances, consider seeking out alternative financing options.

Asset-based Financing

If you’re a business with collateral such as inventory or accounts receivable, then an asset-based loan might be a good option for your business. Assembled Brands specializes in working capital loans that are backed by assets and has worked with dozens of today’s top brands in the consumer goods industry. You can learn more about our working capital solutions here.

Invoice Financing / Factoring

Factoring is a financial transaction where a business sells its accounts receivable (outstanding invoices or customer debts) to a third party, known as a factor, at a discount. The factor provides immediate cash to the business by advancing a percentage of the total value of the accounts receivable. The factor then assumes the responsibility of collecting payments from the customers on the invoices. Learn more about which businesses should consider factoring here.

Business Credit Cards

Credit cards can provide businesses with short-term financing options. They offer flexibility and convenience, but it's important to manage credit card debt responsibly and be mindful of interest rates and fees.

Each financing alternative has its own advantages and considerations. It's recommended that businesses carefully evaluate their specific funding needs, financial situation, and the terms and costs associated with each option before deciding if an alternative to a merchant cash advance is more suitable.

Is a MCA Right for Your Business?

A merchant cash advance is right for businesses that don’t have collateral like AR and inventory to lend against and need funds fast. Businesses should be aware of the high cost and frequency of repayments of MCAs that could hurt cash flow.

It's important to note that while merchant cash advances can provide quick access to capital, they can also be more expensive compared to other financing options. Instead of an interest rate, MCAs use factor rates, which are applied on the daily sales amount. Businesses should carefully consider the terms, costs, and their ability to handle the daily holdback before deciding to pursue an MCA.

Consulting with a financial advisor or exploring alternative financing options may be beneficial.

Assembled Brands offers funding that is non-dilutive and doesn’t require you to give up a percentage of your sales. Apply today to learn more about what Assembled Brands can do for your business.