Every business owner knows that adequate cash flow is not only the key to financial success but to the ultimate survival of their business. However, this begs the question – “what do businesses who are owed thousands or more in unpaid and overdue invoices do other than scrape by until their clients finally pay them?”
In the UK, roughly 45,000 businesses use invoice factoring to reclaim control of their cash flow. But what is invoice factoring and how could it help you?
What is invoice factoring?
Invoice factoring solves cash flow issues by freeing up any tied-up funds that your business has in unpaid invoices; but how does it do this?
With invoice factoring, a business sells their unpaid invoices to a finance company. This specialist finance company is called an invoice factorer or an invoice discounter. They collect the payment on the invoices you issue to your customers on your behalf.
After you have sold your unpaid invoices to your factorer, they then pay you most of the value of the invoices straight away. Invoice factoring, sometimes also known as debt factoring and asset based lending, is provided through both banks and independent finance providers – there’s healthy competition in this sector so you should really shop around.
Is your business eligible?
Whether you decide to go through a bank or independent finance provider, your factorer will have their own set of eligibility criteria on whether your business is a good proposition for their services and these criteria can and do vary greatly.
One important factor they consider is whether you can prove to them that you issue invoices to creditworthy commercial clients. The quality of the companies on your order book is crucial.
How does it work?
Invoice factoring is a quick and simple process. It works like this:
- You sign an agreement stating that you will sell and assign some or all of your invoices to a third-party factoring company.
- After this, that factoring company will start to manage the invoices you sell and assign to them.
- You send your client an invoice which has net terms anywhere between thirty to ninety days and you sell that invoice to the factorer.
- The factoring company will then pay you an advance of 80% of the value of the invoice you have assigned to them.
- Your client who was issued the invoice will pay the factoring company the money when the invoice is due (30-90 days).
- Once your client has done this, the factoring company will forward your remaining 20%.
- You should note that your final 20% will have the factoring company’s fees taken from it.
If you want to use invoice factoring but you haven’t completed the work outlined on the invoice yet, then the factoring company will generally not pay out on an invoice if the product or service is not fully delivered.
There are some forms of factoring where invoices for part-payment will be paid out on however they’re generally for the construction sub-contracting sector only.
What are the advantages to invoice factoring?
If your business has a customer database full of difficult customers who fail to pay their invoices on time, your business could genuinely benefit from using invoice factoring.
Although factoring companies come with a fee, they can significantly improve the state and management of your business’s cash flow. In most cases, the fee won’t be that much different from the fee you pay a merchant services provider to take a credit card payment.
Many factoring companies can also manage your credit control too and this means that your business doesn’t need to chase customers who don’t pay their invoice on time – this is going to decrease the amount of stress you’re under by reducing the time you spent chasing.
Do you need help with your cash flow?
Most businesses experience cash flow problems at every stage of their development but you can take positive steps to resolve the situation. To talk about invoice factoring or any other late payment matter, please contact the Financial Management Centre on 0800 470 4820 or email us at [email protected].