Invoice finance can put your mind at ease by anticipating the money your customers owe you in exchange for a fee. If your business relies heavily on invoices and your cash flow is subject to fluctuations as a result, then invoice financing can offer financial breathing space.
Invoice finance is a form of secured business lending that allows you to borrow money by using your unpaid invoices as collateral. Instead of waiting for your customers to pay for the service you provide, you’ll get most of the cash right away.
In return, you’ll have to pay an interest rate for each invoice, plus an initial fee, to the company that provides the service.
There are two commonly available types of invoice finance – here are the definitions of both:
Invoice finance is quite expensive, but it can also be easier to obtain than, for example, an unsecured business loan. Since your invoices act as collateral, the lender can afford to take some extra risk with your business and may be able to lend you money even if you haven’t been around for a long time or if your company credit score isn’t great.
If you set up invoice factoring (also sometimes called “debt factoring”), you’re selling some or all of the credit you have with your customers to a finance company.
The company will pay you the majority of the invoices’ value right away – usually up to 85-90% of it within 48 hours – and the rest when the customers pay it, minus the agreed charges.
If you sell all your invoices to the finance company, you can do without a credit department because the company will do the dirty job of harassing your clients to get the money they owe you. However, this comes at a price, so invoice factoring is usually more expensive than invoice discounting.
In terms of cash flow, the basics are the same: you get up to 85-90% of your invoices’ value immediately in exchange for a fee. However, the finance company is effectively lending you the money against your unpaid invoices.
Your invoices remain yours, and so do the credit and the responsibility that come with it. This means you will still need an effective credit department to chase down the invoices as necessary. The amount of the fees you are charged will depend on how long it takes your customers to pay the invoices, and in some cases, if the customer doesn’t pay you back within the established period, the finance company may take its money back.
As you’re still the one dealing with the customers, they won’t need to know you’re using invoice discounting and the fees will usually be lower.
Depending on the financial needs of your business, here are some of the things you may want to check before picking your invoice finance provider:
Invoice finance is generally good for businesses that have a fluctuating cash flow. For example, a company may have a few big customers that are powerful enough to demand long credit terms or the company’s line of work has high initial costs (that can be due to the need to buy expensive raw materials, for instance).
Invoice finance can also be a good choice if your company is growing quickly because the amount of money you get is flexible and ultimately depends on your turnover.
On the other hand, invoice finance companies usually only offer business-to-business services, so if most of your turnover (and your financial issues) comes from the public, it probably isn’t what you’re looking for.
Moreover, don’t forget that if you have a good credit score, or if you own assets that allow you to secure the loan, a regular business loan may be a cheaper option.
Invoice finance tends to be expensive, so make sure you’ve exhausted all of the alternatives before going for it.
Eligibility criteria tend to change from provider to provider, so don’t forget to check them before applying. You don’t want to waste your time with an application if your business doesn’t meet them.
As a rule of thumb, invoice discounting requires a higher turnover than invoice factoring. Usually, both new and established businesses can apply, but in some cases you’ll need to have been around for a minimum amount of time (for example 6 or 12 months).
Finally, if your business exports products and your invoices are paid by clients overseas, some lenders may add extra conditions or be unable to help.
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