Invoice Factoring or Invoice Discounting
If you are running your own business and have problems with cash flow it may be that you have clients who are not paying on time. This ties up your capital as you may already have paid your suppliers for materials used on jobs for these clients.
Factoring your invoices can dramatically improve your cash flow by releasing money as soon as you have completed an order and raised an invoice rather than having to wait for your customer to pay. It could be considered as a short term loan based on the value of your outstanding sales invoices. Because it's linked to sales, invoice factoring is ideal if your business does not have the financial track record or security available to negotiate overdraft facilities with your bank (and may even prove to be cheaper).
A key advantage is flexibility. Because the whole thing works around your invoiced sales, the amount you can borrow grows in line with these sales and it may even be possible for you to repay bank loans and overdrafts with the money raised.
Typically, when an invoicing factoring scheme is set up you can borrow around 80% of the value of your approved invoices that are less than 3 - 4 months old (there is no point in factoring possible bad debts). Thereafter, cash will be made available against invoices on a daily basis. The remaining 20% of the invoice value, less charges, is paid to you by the invoice factoring company once the value of the invoice has been collected. Once the system is established, the level of advance you receive against invoices depends on a number of issues such as collection rate, size of invoices etc but can rise to a higher percentage.
Once in place, there is no limit to the amount you can borrow as the finance is linked directly to your invoiced sales. This is in contrast to bank overdrafts, which require regular re-negotiation and arrangement fees and loans that may need security from the directors of the business.
The cost of such a facility is normally around 3% over the Bank of England base rate for the money borrowed together with a service charge linked to gross turnover of at least 0.5% depending upon the level of annual sales, the number invoices raised, collection rate and how many live accounts are on the sales ledger. Small addition charges are often made for extra services such as credit insurance.
For the medium and larger business invoice factoring may well be one solution to cash flow (and sometimes credit control) problems