What is Invoice Finance and how Does it Work?

Invoice finance is the general term used to describe the process of selling invoices for a percentage of their value. Also known as accounts receivable finance, it is a useful means of improving working capital, particularly for those businesses with clients that take a long time to pay, or who may have been refused traditional bank finance.

Invoice finance is most broken up into invoice factoring, and invoice discounting. The primary difference between these is whether the company or the factor collects the invoices.

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How does Invoice Finance Work?

Invoice finance can release funds quickly, sometimes in as little as 24 hours. Companies wishing to raise money on unpaid invoices first obtain a quote from a ‘factor’. Based on the amounts of money involved, and the level of risk, a percentage based commission is agreed upon and, once this is done, the factor advances typically up to 80% of the invoice. The remaining 20%, minus the finance fee, is paid once the customer has settled the invoice, usually 30 to 60 days later.

What’s the Difference Between Factoring and Discounting?

Invoice factoring usually involves the partner taking control of the sales ledger, meaning they will become responsible for collecting the invoice from the customer. This gives them the added security of being able to use their debt collection methods, but there is a downside in that the borrower’s clients become aware of the process.

With invoice discounting, the business collects the payment itself as it always has, meaning full confidentiality is retained.

How does Invoice Finance Work

What’s the Cost of Invoice Financing?

The costs of invoice finance are extremely varied between providers, and are also industry dependent, depending on historic levels of risk. There is usually an administration charge and a charge for the actual factoring/discounting, both of which will reduce the amounts of money borrowed increase. We recommend comparing the rates of as many suppliers as possible to narrow down the field. Pricing is not the only deciding factor. For example, if you are paying less your service may be adversely affected. You should also meet your potential partners to ensure you can work with them to ensure you get the best possible deal.

The Invoice Finance Process Explained

(1)  The client is invoiced.

(2)  Invoices are sold to a ‘Factor’.

(3)  Factor offers an advance of up to, say, 80%, sometimes within 24 hours.

(4)  The client pays factor directly when the invoice is due, or the business as usual if ‘invoice discounting’ is used.

(5)  After payment of the invoice, the factor forwards the remaining balance, minus the agreed charges.

Advantages of Invoice Finance

  • You can gain access to money quickly, freeing up much need cash flow.
  • Improved cash flow can keep relationships with supplier’s cordial, and enable the negotiation of better deals since terms can be more flexible.
  • Confidentiality can be retained, meaning the clients need not become aware that finance has been utilised.
  • Invoice Finance can support businesses which experience challenging seasonal fluctuations.
  • Can be available to businesses for whom traditional bank finance is not available.

Disadvantages

  • Traditional finance may become less easy to get once you’re involved in factoring since your invoices become the assets of the finance company.
  • Cost -the entire nature of factoring/discounting means that you will not receive the full percentage of your invoice. This is traded in return for improved cash-flow.

Recourse and Non-Recourse Invoice Finance

This terminology is commonly used in the invoice finance industry: with recourse means that, should the customer not pay the invoice, the borrower remains liable.

Looking for Asset-based Financing?

For more information on how Invoice Factoring can help your company feel free to call Mike Smith on 07912 344394 or send an email to finance@companydebt.com.

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