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Cashflow is the life blood of every business but often the control of it is determined by your bank’s willingness to help and grow their facilities as you grow your business turnover. Many people like you will have realised that in the current financial climate lenders are looking to restrict further borrowing and can stifle the growth of the business that is fighting back against the Credit Crunch and succeeding. There is an alternative.
Debt factoring involves selling your invoices to a third party. In return they will process the invoices and allow you to draw loans against the money owed to your business. Essentially, these companies provide a debt collection and ledger management service.
Invoice discounting is an alternative way of drawing money against your invoices. However, your business retains control over the administration of your sales ledger. As well as providing finance, which is probably the main attraction, it offers valuable support services and credit insurance.
The following gives a little more information on how debt factoring and invoice discounting work.
Invoice discounting is an alternative way of drawing money against your invoices. However, your business retains control over the administration of your sales ledger. It can provide a cost-effective way for profitable businesses to improve their Cashflow.
Invoice discounting is only available to businesses that sell products or services on credit to other businesses. It is normally only available to businesses with a proven track record and an annual turnover of at least £500,000
However, it may not necessarily be the cheapest form of finance and can tie you into a long contract.
How invoice discounting works
The invoice discounter will first check the business, its systems and its customers. They may then agree to advance a certain percentage of the total outstanding sales ledger.
You will pay a monthly fee to the invoice discounter and also pay interest on the net amount advanced. This is in addition to advances received or money repaid.
Each month, more money is advanced by the discounter or repaid by you. This will depend on whether the total amount owing has gone up or down.
For example, if the invoice discounter agrees to advance 85 per cent of the total owing and the total of outstanding invoices are steadily changing, then so will the amount you receive. If the outstanding debt drops month on month, you must repay 85 per cent of the fall in debt. If the debt rises month on month, you will receive 85 per cent of the increase.
Features of invoice discounting
- You collect the debts and do the credit control. See our partner page on recovering late payments.
- Your customers do not usually know about the invoice discounting, although it is sometimes disclosed.
- Annual turnover must usually be at least £500,000, although increasingly smaller businesses will be accepted. Generally, discounters will review the credit history and profit track record of your business. They will have strict rules regarding the quality of sales ledger systems and procedures.
- The invoice discounter will check regularly to see that your procedures are effective.
- You can choose between recourse and non-recourse facilities, determining who is responsible for recouping unpaid invoices
How debt factoring works
Factoring provides a fast prepayment against your sales ledger. It allows you, at a cost, to flexibly increase your working capital and improve Cashflow.
Factoring is offered to businesses trading with other businesses on credit terms. It is not normally available to retailers or to cash traders.
When factoring starts
Factors can be independent, or subsidiaries of major banks and financial institutions. Whatever their background, they will want to meet you, visit your business, review your financial situation and study your business plan to evaluate your suitability for a factoring facility.
Credit limits might be required - if so, you must agree how they will operate.
After signing the agreement, the factor will typically agree to advance up to 85 per cent of approved invoices. Payment is usually made within 24 hours. Usually all sales go through the factor.
Check the notification period - most factors require three months' notice to end the service, but some require longer. Negotiate if you are not happy with the notice period.
Factoring is a complex, long-term agreement. It is advisable to consult your solicitor on the legal and financial implications of factoring.
When an invoice is raised
- You raise an invoice, which has instructions to pay the factor directly and send it to the customer. Send a copy of it to the factor.
- The factor pays an agreed percentage of the invoice to you.
- The factor issues statements to the customer on your behalf. It operates credit control procedures including telephoning the customer if necessary.
When an invoice is paid by the customer
- The customer should pay 100 per cent of the invoice directly to the factor.
- The factor pays the balance of the invoice to you. Fees and interest will be deducted from the payment.
When an invoice is not paid
If an invoice is not paid, responsibility for paying the debt will depend on the type of agreement - either recourse factoring or non-recourse factoring.
There are many lenders in this sector, both bank subsidiaries and specialists who understand different business sectors, our task is to source the most appropriate one for you based on flexibility, service and of course price. Do visit our contact page if you have a proposition you wish to discuss and we can work out how best to help or bring in a niche specialist that can help your business grow the way it is trying to.