Invoice finance

What’s invoice finance?

Invoice finance means borrowing money against money that customers owe to your business.

Unpaid invoices represent money that will be paid to you but you could be waiting weeks or months until the money is in your bank account if you’ve given them a set time to pay in your payment terms. 

Invoice financing can help with your business’s cash flow. By using the invoices as a sort of security against a loan, invoice financing lets you access and use most of the money owed immediately, so there’s no wait to get paid.

Types of invoice finance

There are two types of invoice finance. Both raise the funds against the invoices of your clients but they work in slightly different ways.

Invoice factoring

With invoice factoring, the lender’s responsible for collecting the debts from your clients, not you.

Payments from your customers will usually go into a bank account controlled by the lender, and your customers will be made aware that you use factoring.

Factoring is lower risk for the lender because it’ll have more control over making sure your customers pay you on time.

This means that lenders might prefer to offer factoring for companies with low turnover, a short trading history, or any other challenging circumstances.

You may also be able to add bad debt protection, which means you wont have to cover the shortfall if your customers failing to pay. 

Invoice discounting

Invoice discounting lets you instantly access cash tied up in unpaid invoices and tap into the value of your sales ledger. 

When you invoice a customer or client, you receive a percentage of the invoice total from the lender, giving your business an immediate cash flow boost. 

Another way to look at invoice discounting is by seeing it as a series of short-term business loans, using invoices as security. The lender knows that you are owed the money, so will lend you most of it before your customer has actually paid you.

Disadvantages of invoice finance

Invoice finance won’t suit every business and there are a number of drawbacks you should be aware of so you can make an informed decision.

It solves a very specific problem

Invoice finance is designed to specifically address the problem of insufficient cash flow. If you have customers that pay your invoices on time and within reasonable payment terms, then this form of finance won’t help you. If you want access to capital to buy new machinery or equipment, then a business loan might be more suitable.

It can cost more than other finance types

The cost of invoice finance has fallen as competition in the industry increases. But it still might not be the cheapest source of finance for your business. Make sure you get quotes from multiple invoice finance providers by using a whole-of-market broker, then compare the cost against other credit streams.

Customers might not know there’s an arrangement in place

It depends on whether you choose a factoring or discount arrangement. Factoring providers are responsible for collecting payments from customers and will deal with them directly. This has the potential to affect the relationship with your customers if they perceive the lender to be heavy handed with collection. 

Is invoice financing right for my business?

Invoice finance won’t be right for every business.

If your company has plenty of cash in the bank already, there’s no point taking out an invoice finance facility as you’ll pay interest unnecessarily.

But if you want to offer your customers longer payment terms while making sure you have enough cash flow to buy stock or materials to start you next job, you could find it wins you more custom and means your business is more profitable because of it.