For businesses, invoice finance offers an assortment of services that could be useful. A common misconception about Invoice Finance is that the funder will go after customers for unpaid invoices. A wide variety of solutions exist where this is not the case. In invoice factoring, the funder is in charge of collecting customer payments, but with Invoice Discounting, businesses retain control of their credit control process. Why might you decide it’s best to enter into an invoice discounting arrangement?
Release funds quickly
To improve cash flow and the working capital cycle quickly, invoice discounting can be used. Essentially, you receive a cash payment—for a significant proportion of the amount due—as soon as each invoice is issued. This greatly aids your cash flow management, especially when you consider that without an invoice discounting facility, you simply have to wait for the other party to settle the invoice, which might occur at an indeterminate moment in the future.
However, invoice discounting should not be used as a regular process but rather as an additional facility. By negotiating effectively with debtors to secure timely payments, you can improve your working capital cycle. High-interest charges and fees outweigh the benefits of invoice discounting. A businessman should only use this method of financing if all other options have been exhausted and have proven unsuccessful.
Remove the hassle of chasing payments
Clients’ payments for goods and services are how they make their living. Businesses typically offer a repayment period for invoices ranging from 30 to 90 days. This means that until the client pays you, your funds are held in escrow. Most business owners don’t need any reminders of how difficult it can be to get their debtors to settle invoices promptly. However, if you enter into an invoice discounting arrangement, you can outsource invoice collection to your finance provider, saving you time and hassle and allowing you to concentrate on running your business.
The cash can be used for any purpose
The payments you receive under an invoice discounting arrangement can be used for almost any business purpose, such as improving working capital, reducing debts, funding expansion, recruiting new staff, or purchasing stock and equipment.
Reduce risk to your business
Especially for smaller businesses, if one customer is late in paying a large invoice, it can have a significant impact on the overall health of the business. With invoice discounting, you can make sure you receive most of the invoice’s value immediately.
There is no need for your clients to know
There is no legal obligation for you to tell your customers that you have entered into an invoice discounting arrangement.
Make your own payments faster
Because of the cash flow improvements that invoice discounting offers, this should hopefully allow you to settle your own repayment obligations faster, whether these are debt repayments or your own invoices. By settling your own invoices faster, you might be able to obtain discounts for early repayment.
Obtain protection against bad debts
It is possible to obtain ‘non-recourse’ invoice discount finance, where the lender accepts full responsibility for any invoices that remain unpaid. This means that you would still receive the full amount due to you, minus the lender’s usual fee, if a customer ever failed to pay entirely.
Potential disadvantages of invoice discounting
However, there are also several reasons why invoice discounting might not be the right option:
- Some providers may only provide this form of financing to larger companies with established credit control systems. They might ask that you have turnover above a stated amount, or that you have been trading for a set period of time. If a provider is willing to lend to a smaller company, it might be at a higher fee
- Fees and other borrowing costs may be higher than for other forms of finance
- Entering into an invoice discounting arrangement can make it harder to obtain other forms of finance
- Your profits will be reduced – you will no longer receive the full value of each invoice as some of the amount will go to your lender
- This type of arrangement is usually only available for commercial invoices, so if you regularly invoice members of the public, then invoice discounting might not be of much use
- Credit checks will be carried out before you are approved for invoice discounting
- It can be difficult to end an invoice discounting arrangement, as having it in place could lead to you getting used to receiving payment as soon as an invoice is issued. It can then be very difficult to adjust to an environment where invoice payment dates are more unpredictable
How does invoice discounting work?
One of the large high street banks has described invoice discounting as ‘a company borrowing their own money!
With this type of arrangement, when you issue an invoice, the finance provider gives you a sum equivalent to a proportion of the invoice’s value. It’s common for you to receive between 70% and 85% of the value, although there are some invoice finance arrangements available where you might be able to receive 95% or even 100%.
Essentially, the sum you have received has been borrowed from the provider. Although it’s your own money, in the sense that they were funds that were due to you anyway, the lender still expects some form of repayment. This occurs when your debtor pays the invoice, when the remaining portion of the invoice amount is paid to you, minus a small percentage of the invoice value, which goes to the lender.
Learn how invoice financing can benefit your business by using our Invoice Finance Calculator.
