The trucking industry has been a mixed bag for most of 2022 and with expectations flat for the balance of the year, Raul Esqueda, President of 1st Commercial Credit takes a look at how we got here and how factors should be preparing for the rest of 2022.
Our factoring divisions finished the first half of 2022 in exceptional shape. Compared to the previous six months, these divisions ended by showing an impressive 30% increase. While temporary staffing agencies increased the most during the past year, labour remains in high demand. In addition, this scarcity in the qualified temporary workforce is expected to continue.
During the first half of 2022, the trucking industry experienced mixed performance, leading to a correction that started in March of this year in every sector. The industry is expected to remain flat until supply chain volume catches up with demand and overflows the ports in Q1/23.
Despite the mixed bag of 2022, the momentum the trucking industry experienced from 2021 to the end of February 2022 is unprecedented compared with the more than 20 years I’ve been providing factoring services to the trucking industry; I’ve never seen anything like it. Factoring companies that handle freight recorded the highest average invoice size for more than 16 consecutive months in this period. To illustrate, a typical dry van freight service that averaged $2.16 per mile before COVID-19 ended up averaging $2.96 to $3.25 per mile during this period.
This year, however, logistics and distribution channels were shocked by the sudden rate increases on freight, which ranged from 30% to 50%. This happened on top of a 400% increase in inbound container freight from China. To put this in perspective, these companies averaged $18,000 in comparison to a meagre $4,500 average during previous years. Unprepared for such increases and unable to offset these increases to their buyers, importers and retailers were obliged to absorb deep losses in profits.
The Beginning of Inflation
The conditions for today’s inflation are obvious even if you’re not an economist. It started with an increase of 35% on the duty fees for certain items imported from China. This was followed by a sudden shortage of supplies. Finally, the price increase on finished goods due to COVID-related shutdowns got compounded by high inbound freight and fuel costs. All of these conditions paved the road for rapid inflation.
Retailers Delay, Cancel or Downsize
While supply chains continue to catch up to demand due to another shutdown in China, it appears that major retail outlets are stuck with inventory that is not selling fast enough. Frequent “cancel order” notifications are disrupting distribution centres and manufacturers worldwide. As of June, ports on the West Coast have decreased volume, which leaves a great number of trucking companies empty-handed or stuck with very low rates for repositioning equipment to the east. In addition, southbound rates continue to drop below operating costs for picking up freight along towns on the Texas border.
Cash Flow Crisis
Businesses that provide cash advances to the trucking industry may start to see things change soon. During the period between March to the end of May, trucking industry rates dropped by 30% or more and there were fewer loads available. This is a serious issue for the cash flow industry and equipment finance companies. Trucking companies are collecting pre-COVID rates (around $1.96 per mile), yet they are incurring expenses at 2022 levels. Diesel has doubled in cost along with additional increases in insurance, truck repairs, prime rates, new and used equipment costs and wages. The ongoing shortage of truck drivers adds to the challenge for trucking companies looking to make a profit. The rapid drop in revenues combined with steadily increasing expenses has caused a cash flow crisis. This leaves many trucking companies no other option except alternative financing just to stay afloat.
Bankruptcies: Ugly but Inevitable
I get at least one new inquiry every week from a prospective trucking company owner ready to close down due to over-extended loans. After analyzing profit and loss statements, certain patterns tend to emerge over time. For example, I have trouble understanding how the second and third-position lenders expect a trucking company to pay $4,000 a week when the company only nets $2,000 a week. Compounding the issue, the majority of these troubled trucking companies already have more than one merchant cash advance loan.
Factoring companies prefer not to fund receivables if the client has outstanding MCA loans. This happens for several reasons. First, while it’s true that some situations can be salvaged and show potential for a positive outcome, there are no guarantees. Secondly, any three-party agreement between a factoring company, an MCA lender and the client must be transparent and acceptable to all parties. Making matters even worse: Trucking companies looking for equipment finance are declined instantly if they have even one MCA loan.
A Case Study
At 1st Commercial Credit, we recently had to help a factoring client in the trucking industry who was already on a path of no return. The client owns trucks and trailer equipment and took out some stacked MCA loans that put them in an over-leveraged situation. We were factoring the client’s receivables when the client went into default with the MCA lenders, triggering the inevitable:
- The lenders refused to lower the draws or renegotiate, causing NSFs.
- The client was unable to continue making equipment loan payments.
- The client used depleted working capital for daily fuel purchases.
- The factoring company was left with $500,000 unpaid in accounts receivable with potential offsets due to trucks stranded at fuel stations waiting for fuel money.
- Unattended drivers were left with no cash for expenses.
Chapter 11 and DIP Financing as Solution
A factoring company in the situation outlined above has to move quickly. Each hour or day that passes becomes vital for a successful rebound, and only quick action can deter as much damage as possible. If the client waits too long to decide to move forward with a debtor-in-possession financing solution, it may be too late. Here are some of the important steps:
- The factoring company has to be prepared with all the factoring agreements modified for Chapter 11.
- The client’s attorney has to be up-to-date on BK laws and familiar with factoring receivables. The client must have at least $15,000 to $20,000 available for attorney fees. This will vary depending on how many banks or secured lenders are involved.
- The parties must request an emergency court date and get an interim order authorized. This will allow the factoring company to continue factoring receivables. All other lenders will receive a stay order, which means they cannot collect on the client.
- A trustee must be assigned and all secured debtors must be addressed.
- The client must open a new bank account that will be monitored and move any pre-petition cash for operating expenses. The factoring company can resume funding the new bank account with a superior lien position to all other lenders.
Financial consultants can offer a DIP financing/factoring solution as long as the client is a factorable prospect. A client must have at least $500,000 in accounts receivables and proof of recurring business to qualify. The closing fees during a DIP finance deal are minimal; however, the long-term monthly income stream can be a great commission source.
About Raul Esqueda
Raul Esqueda founded 1st Commercial Credit in 2002 offering a variety of cash flow solutions for small to mid-size businesses. The company’s core business offers invoice factoring and has expanded into supply chain finance which includes purchase order financing, trade payable financing and equipment leasing. Esqueda has funded more than 3,400 clients and has surpassed more than $5 billion in receivable-based funding and trade payable financing transactions.
- This article was first published by IFA Commercial Factor. Click here to view the original article.