It is not uncommon that companies with cash flow problems or those that have a desire to be paid on expedited terms assign their accounts receivables as collateral for a secured loan or they factor them. This can happen in any industry. What impacts can this have on a construction project when a contractor or vendor assigns or factors its accounts receivable?

First let's understand the difference between the two routes a contractor may take.

• In the case of assignment, the financial institution analyzes the accounts receivable aging report and for each invoice that qualifies the assignee generally receives between 50-85 percent of the outstanding balance in cash. Depending on the lender the contractor may have to assign all of the receivables or specific receivables to secure the loan. The benefit of this arrangement is that the contractor retains ownership of the accounts as long as the contractor makes loan payments and the lender deals directly with the contractor so customers may never know the contractor borrowed on their outstanding accounts.
• In the case of factoring, the contractor sells its accounts receivable to the financial institution or the factor. The factor analyzes the accounts receivable aging report to see which accounts meet their criteria. Factors will pay anywhere from approximately 65-90%. Factoring gives the contractor instant cash and puts the burden on collecting receivables on the factor. Factoring is generally expensive because the factoring companies charge high fees and they may retain recourse rights.

One may argue that a project owner or developer should not care whether a contractor assigns or factors their accounts receivable as long as they keep working. However, in the case of factoring especially, it can have an impact because the factor will require payment to be made directly to them. Presuming a project has a construction loan, the lender will not simply fund to an unknown company that has not been pre-approved by the lender. In addition, lenders and owners generally will not and should not make payments without receiving a lien waiver from the payee, which the factor may not be able to provide. If the lender will not fund, the contractor may have a basis to stop work which could delay the project.

This can be avoided, or at least discouraged, by having the proper language in the contract to prevent the assignment or the factoring. Most often the concern is the contractor assigning the agreement to another contractor which most contracts would adequately protect against by stating that the contract cannot be assigned without the consent of the owner. But sometimes that language is not enough because in both scenarios described above, the contract itself is not being assigned or sold, only the receivable.

Language such as: "Neither party to the Contract shall assign the Contract without written consent of the other" may not prevent a contractor from assigning the account receivable or factoring.

Broader, yet more specific language such as: "Contractor shall not assign or transfer its interest in this Contract or assign or transfer any right it may have under the same or the proceeds payable hereunder or any part hereof ..." not only prohibits assignment of the contract but certain interests in the contract which is better equipped to prevent against factoring. When assignees or factoring companies review the receivables they may consider contract language which expressly prohibits an assignment or factoring of the receivables which may keep your project out of such arrangements, which could impact your lender's funding and progress of the project.