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Many large businesses are already using invoice discounting.  If you do not meet the minimum annual turnover requirements for discounting, you should try invoice factoring.  The two finance solutions work in a similar manner, but factoring is better suited to small businesses. 

Do You Qualify

While some factors require you to have an annual turnover of at least £50,000, some will waive this requirement if you have an excellent credit history.  You should also deal mainly with other businesses.  Typically, factoring is not available for retailers. 

Benefits

Small businesses need capital to grow.  Gain access to outstanding invoice capital when you choose invoice factoring.  The basic principle is the factor pays you for your invoices.  They collect from your customers so you do not have to manage your own debt.  Note that some factors allow you to manage debt collection yourself.  You have access to a percentage of the invoice, usually 80 per cent, within 24 hours until the invoice is paid.  You then receive the rest, less the factor’s fee, which is a set amount or percentage of the invoice.

It can be confusing choosing a factoring company when there are so many different alternatives on the market, often with subtle differences between the services they offer.  One solution is to use a broker such as Touch Financial.  Touch Financial is partnered with a wide range of factors and can supply quotes for various invoice financing services.

It is worth contacting more than one factor before making a decision, so that an informed choice can be made.  A list of factors can be obtained from the Asset Based Finance Association.

One way to find out more information about a factoring company is to talk to some of its customers.  If a company is not willing to let a potential client talk to existing customers, there could be some cause for concern.  Even better is to obtain a personal recommendation if this option is available.  The general reputation of a company is also important to bear in mind.

Questions to consider when weighing up options are: the factor’s previous record in collecting debts; the way the factor operates; how disputes and queries are dealt with; what the factor’s general outlook is on business; does the factor have knowledge of the business’s particular industry; how does the company communicate with a business’s customers; what happens if the credit limit is exceeded; what is the notice period that must be given to finish the agreement and what is the procedure for doing so?

The answers to these points should go a long way in determining the suitability of an individual factoring company for a business’s needs.

Non-recourse factoring is a type of invoice factoring that might be chosen by a business.  The alternative type of invoice factoring it could choose is recourse factoring.

Non-recourse factoring means the factoring company takes on the bad debt of a business that is using its services.  It will accept specified risks in relation to non-payment of invoices by a debtor.  However, it will not insure against debts that remain unpaid because of a genuine dispute between the business and the customer.  In these cases, the business must take steps to resolve the matter and if agreement cannot be reached then any amounts that have been advanced will have to be returned to the factor.

Because the factoring company accepts liability for unpaid debts, the costs associated with non-recourse factoring are higher than for recourse factoring.  Although money that has been advanced against a bad debt does not have to be repaid, interest does remain payable on the outstanding amount until such time as payment is made.  All rights to pursue the customer, including the right of legal action, are taken over by the factoring company.

Worried about taking out a business loan? Concerned that meeting repayment schedules on a mortgage could prove difficult? When cash flow is a problem but borrowing is not appropriate, try invoice factoring for an alternative that has many advantages.

The chief advantage of invoice factoring is that it offers prompt access to the cash that is already due to the business. When an invoice has been raised, often it is necessary to wait for up to 90-days for payment – sometimes even longer. This can result in late payment of bills to suppliers and the consequent loss of advantageous discounts for early settlement. Factoring offers an opportunity to receive up to 90 per cent payment straight away.

Credit Management

There are some options as to how relationships with creditors are handled when businesses try invoice factoring. On the one hand, the factor can take on responsibility for ensuring that cash due is collected, relieving the business of this task. Alternatively, if the business prefers to handle this differently, then there is a method by which the business continues to manage the collection of the cash due: ‘Client Handles Own Collections’, and is often known simply as CHOCS.

Factoring brokers can give assistance and advice to businesses that are considering factoring as a way of easing cash flow. This is useful to companies that are new to the process, as the arrangement between the lender and the business selling its invoices is crucial to the success of the factoring system. For example, some businesses may prefer their customers not to know they are using a factoring service, and may require this to be kept confidential – brokers will know which lenders can accommodate this.

The two types of invoice factoring, ‘recourse’ factoring and ‘non-recourse’ factoring operate according to similar principles, apart from the fact that the level of risk to both factor and business client is different in each case.

Recourse Factoring

Recourse factoring is usually the cheapest option for a business that is selling-on its invoices. This is because, in this case, the business retains the risk of the debtor defaulting. If this happens then the onus is on the business to either replace the unpaid invoice with another invoice to an alternative creditworthy debtor, or to pay the full value of the bad debt. Fees and interest may still be due, and overall the factor bears a lower level of risk in recourse factoring.

Non-recourse Factoring

In non-recourse factoring, the positions are reversed in terms of risk-taking. In this case, the factor generally accepts certain specified risks in terms of whether or not the debtor defaults. In addition, the factor takes on the rights and responsibilities associated with pursuing the debt, including the right to take legal action. The business that sold the invoice will not have to cover its cost in the event that the invoice is not paid, however there may be interest charges on any advance already made.

One cautionary note about the non-recourse option: this type of invoice factoring does not provide any level of protection if an unpaid debt results from a genuine dispute. Understandably, then, non-recourse factoring is the more expensive option of the two.

There is good news about the costs of invoice factoring in that, generally, they are fairly reasonable. The provision of invoice finance is a competitive business and there is no shortage of suppliers, so it makes sense to carefully consider and appraise what is on offer before taking a final decision.

It is also worth remembering, though, that cost should not be the sole consideration and that quality of service is paramount, particularly where business finance and business loans are concerned. For this reason businesses should evaluate all aspects of working with particular brokers or lenders, and identify the advantages of working with those who may not be at the least expensive end of the spectrum.

From the outset, be aware that factoring can be a complex and relatively long-term arrangement. This means that it could have a significant impact on the development and management of a business. Taking professional advice about invoice factoring is always advisable, whether this is from a legal or financial expert, or perhaps from a specialist company that has expertise in this field and can advise accordingly.

Costs Breakdown

Standard costs occur as discount charges or interest, and also as service fees. Extra services, if requested, may incur additional fees.

Discount charges mimic bank interest charges: they are tied to base rate. Commonly they register at between 1.5 to 3 per cent over base rate. Discount charges are calculated daily and generally applied on a monthly basis. Sometimes these fees are more advantageous than equivalent bank overdraft rates.

Fees are charged also for administration and credit management and frequently are linked to turnover, number of customers and volume of invoices presented. Typically, these fees are in the range 0.75 per cent to 2.5 per cent of turnover.

Invoice financing is a method of increasing cashflow by ‘selling’ your outstanding invoices to a lender, who will then give you an injection of some 80-90% of the value of those invoices. There are two types of invoice finance, factoring and invoice discounting. The difference between the two is that with factoring, the lender collects the debts for you, whereas invoice discounting is anonymous, as you collect the debts yourself.

Which Invoice Finance Option Should I Choose?

Invoice discounting and factoring are designed for two different types of client. Invoice discounting is for larger companies that have their own financial departments and well-established credit control and sales ledger systems. Factoring is usually used by smaller businesses that wish to outsource their entire sales ledger functions; the lender effectively becomes your credit control department. 

Invoice Finance Versus Other Methods of Financing

Invoice financing is one of several options available to businesses; others include asset-based lending, loans and overdrafts. The Royal Bank of Scotland’s website offers a detailed comparison chart that shows the advantages and disadvantages of each method. In short, you should use invoice financing when your company provides goods and services to other businesses and is not paid in cash. In addition, the lender will usually require strong proof of debt in the form of delivery notes and/or timesheets. Asset based lending is for larger companies whose capital is tied up in tangible assets, such as plant, machinery or property. Loans and overdrafts are best for established companies with a good credit history, though invoice financing is beginning to eclipse these more traditional methods of financing in popularity.

Invoice factoring, or as it is often called, invoice finance, is a method by which businesses can release money that is tied up in unpaid invoices.  Cash flow is an important aspect in any business and sometimes it can be problematic when cash is unavailable for the time it takes for invoices to be paid.

The general premise of invoice factoring is actually very simple.  A company can employ the services of a third party, known either as a debt factoring company or a factor, and have them lend money on the strength of an outstanding invoice.  When the invoice is first written, the factor loans a percentage of the total sum to the company who have provided the service or product, meaning it becomes available within 24 hours. 

This is a very efficient way of releasing money that would otherwise be unavailable to a company for some time.  The debt factoring company can also provide further service in addition to loaning money.  They can help in reducing administration costs by pursuing payment of an invoice for the client on their behalf.  Many debt factoring companies such as Touch Financial also offer insurance cover, meaning that if an invoice is not paid, payment is still received.

Invoice factoring provides companies with a more practical alternative than having a business overdraft or a loan. This is because the factoring is not a loan, but a purchase of a financial asset, in this case the invoice.

Cash flow is the lifeblood of any business. It is the fuel and food enabling the business to persist and grow. But cash flow does not always run smoothly, invoice settlement is often subject to normal business terms, imposing delays of 30, 60, 90 or even 120 days. A business may have considerable development costs that eat cash ahead of consistent sales income. There are a number of good reasons cash flow can be a problem.

Invoice financing is the umbrella term for a range of solutions to business cash flow difficulties offered by banks and finance houses. In simple terms, business to business invoices can be turned into short term business loans worth up to 85-90% of the invoice total. 

There are three separate types of arrangement under the banner of invoice financing, invoice discounting, factoring, and asset based lending. These three options are tailored to meet different requirements of businesses looking to accelerate their cash flow, and incur some fees and interest on the monies advanced.

In simple terms, invoice discounting provides cash within 24 hours of submitting an invoice to the finance house. The borrowing business must have sound sales ledger and credit control mechanisms. 

Factoring is much the same except that it is aimed at smaller businesses, with the finance company taking over collection and debt recovery, freeing management time for other matters.

Asset based lending is aligned with the needs and potential of larger companies by taking physical assets into consideration, so releasing cash tied up in capital for immediate use.

An expanding business needs working capital to fuel growth and keep everything on track at the same time. Borrowing from a bank in the form of an overdraft is the traditional way of obtaining cash.  However, overdrafts have set limits related to past financial results rather than present performance reflected in invoices due. Another way of addressing this problem is to try invoice factoring.

Factoring might be accurately described as advancing finance against security provided by trade debt. Unlike invoice discounting, factoring also provides credit control and sales ledger facilities. It is only available to businesses trading with other businesses and whose goods and services are offered on credit terms, but can yield up to 90% of the value of an invoice.

Having made an arrangement with a finance company or bank to assign invoices, the growing business raises an invoice on normal settlement terms, and sends the invoice out as normal. A copy is also sent to the factoring company. Once the invoice has been accepted, the factoring company makes up to 85-90% of the total including VAT available to be drawn as required. The balance, once settled by the debtor, becomes available to the business at an agreed maturity date.

The factoring company maintains the sales ledger for the invoices concerned and manages debt recovery, freeing much needed management time which adds value to the service provided. 

Within invoice factoring are a variety of arrangements dealing with disclosure or otherwise of disclosure of the factoring and bad debt protection. Each factoring company offers the service based upon agreed fees and interest rates.