Invoice finance could be a fantastic way for you to improve your cash flow. But what exactly is it? Is it right for your business? And, most importantly, what are the risks for your business and your customers?
In this article, we will demystify the terms and highlight the critical questions you should ask when considering using invoice finance for your company.
Invoice finance is an umbrella term for a number of ways that a company can raise cash against money owed by business clients. The two main types that we will discuss are invoice discounting and invoice factoring (also known as debt factoring).
Invoice discounting enables you to release up to 90% of the cash value tied up in your sales ledger. Therefore, as your company grows, so does the amount of funding available to you. If your company has established efficient processes for invoicing and collections, funds can be available the next working day.
Invoice discounting is generally suited to larger companies with sound administration, as you maintain the responsibility of sales ledger management, including invoice collections. When an invoice is settled by your customer, the remaining monies minus any factoring charges due are paid to you. This means that this type of finance is confidential; your customers will be unaware of how you fund your business.
One of the main benefits of this type of finance is that you can continue to deal directly with your customers. You do not need to be concerned about the potential for third-party interactions having an adverse impact on your existing customer relationships.
Invoice factoring, which is also known as debt factoring, is another quick way to improve business cash flow, releasing cash as invoices are raised. Your factoring company will inject the funds into your business immediately and will manage the collection of payment. This might be a good option for smaller businesses, however, as the lender will be responsible for making contact with clients and the collection of payments, you need to look into their collection process and make sure it complements the way you do business.
Is invoice finance right for you?
Our tips for invoice financing will help you decide whether this method of cash flow generation will work for you and your business, and also cover some of the common pitfalls that businesses encounter.
Consider how much money you can realistically raise
There are many options out there, so make sure you do your homework and find out what different lenders have to offer. In many cases, invoice finance will generate significantly greater working capital than a conventional funding source like a bank overdraft or a loan.
Some lenders may promote generous lending up to 95%, however, the actual amount you receive could be significantly less if your debtors are perceived to be a higher than average risk.
Understand the costs involved
Make sure you read the small print! Look beyond the service charges and interest rates quoted in the attention-grabbing headlines. Make sure you read the agreement thoroughly as facilities vary from product to product. In case of factoring, ask how long it takes to process customer payments.
Safeguard your customer relationships
Find out the timescale for the average collection period. Will your customer be given a dedicated contact for efficient communications? Does the lender send out reminders and if so, how frequently and how are they worded? You may even need to speak with existing clients to find out whether the lender’s approach would be right for your business. This may appear to be a hassle-free way to manage payment, but you need to be sure that your customer relationships are not adversely affected. The last thing you want to do is lose customers when you are trying to improve cash flow!
Don’t breach your agreement
Once you sign the agreement, it is vital that you and your staff understand and comply with the terms. A slip up could result in additional costs to your business.
Know your personal and corporate risks
Always seek independent legal advice to ensure you are fully aware of the implications of any guarantees that you are required to make.
Check the contract length and be clear about termination clauses
Find out how easy it is to get out of a contract – what appears to be a fantastic deal in a long term agreement may not turn out to be a good deal for your business. Your circumstances could change or you may eventually decide that invoice finance is not for you.
There are many deals out there. Speak to a number of lenders and prepare to negotiate the best deal for your business. If you can find a suitable deal and carefully consider your options, invoice finance could well be a fast, efficient way to improve cash flow for your business.