What is Invoice Discounting

Invoice discounting is one of those terms that gets banded about in business often, but one that many people don’t understand fully. To put it simply, invoice discounting is a method of short term borrowing that allows a business to draw money against its sales invoices that are yet to be paid. It’s used by businesses large and small across the UK and is usually done to improve their working capital or cash flow. If your business hasn’t taken the time to see if invoice discounting could help how your company operates, then it’s worth taking few minutes to look into it in a bit of detail.

How does invoice discounting work?

invoice discounting financeInvoice discounting is not complicated and it is a straightforward process:

Step 1: You select an invoice financing company to work with. This may be done using your own research or by utilising a specialist broker who will look at your business and your needs and help you select the most suitable one for you. The invoice financing company will run checks on your business in a bid to ascertain the level of risk and how your invoices will be treated.

Step 2: Your business provides a service or a product to the client

Step 3: Your business sends an invoice noting the amount owed. When you’ve sent the invoice, the clock starts ticking for your client to pay.

Step 4: Your business then posts the invoices to your accounting system on a daily or weekly basis (as normal) and posts the total of the invoices to the invoice discounting company’s ledger via the internet.

Step 5: The invoice discounting company will lend you cash against your invoice. Depending upon the creditworthiness of your customer, your business will be able borrow between 70% and 90% of your invoice values. The actual amount will depend on your pre-existing arrangement and the risk the company calculates on lending on that particular invoice.
The good news is that this process happens relatively fast, often within 24 hours after uploading the invoice totals.

Step 6: You proceed with your regular credit control. It’s at this point that you’ll see the main difference between invoice discounting and factoring. In factoring you SELL your invoices and then it’s up to the factoring company to chase your client and demand payment. With invoice discounting, you remain the owner of the invoice and you BORROW money from the finance company. Thus, you still need to utilise your own credit control procedures to collect the unpaid invoice.

Step 7: The client pays you the amount due but instead of paying the cheque into your own bank account it is paid into a trust account.. They will calculate how much interest you owe them based on how much time has passed until you’ve collected the payment. Along with the interest, you may also pay an administration charge as set out in your terms and conditions. Once the payment has been received you are then entitled to the balance of the invoice that wasn’t paid to you initially.

Who needs invoice discounting?

benefits of factoringAny business that would like to improve their cash flow can benefit from invoice discounting. Maybe you have too many invoices that clients haven’t paid, or are simply waiting on one or two large invoices to be paid. If you want your business to grow a ready supply of working capital is essential and a cash injection can be highly beneficial, giving you enough operational capital and ensuring you stay on top of your own business payments. Failure to do so means that you could end up turning work down due to lack of funds and could also mean that late or unpaid bills generate interest, increasing the money you owe. Cash flow problems remain one of the main reasons for small businesses failing in the UK.

A blocked cash flow can prevent you:

● Paying your staff on time and in full, severely affecting morale.
● Paying rent, water and other utility bills
● Keeping up with payments to your suppliers
● Paying your business loans or other financial commitments in full or on time
● Keeping an adequate amount of working capital
● Investing in new equipment and tools.
● Keeping on top of essential plant and machinery maintenance and repair
● Investing in vital staff training

These are just some of the problems an impaired cash flow can cause. As you can see, it’s not a surprise that so many businesses that fail cite cash flow as the main reason for their failure to continue to trade.

If your business is displaying one or more of the symptoms above, then invoice discounting can help you take back control of your cashflow. By borrowing against your unpaid invoices, you can release vital cash to ensure your business can remain running at full capacity. Although there is a charge for invoice discounting, many businesses find that it can actually help them increase their overall profits.

The advantages of invoice discounting

The popularity of invoice discounting is for a number of reasons:

The amount of funding increases with sales

The more sales that your business makes the more funding becomes available unlike traditional bank borrowings that tend to be limited to available security.

You can opt for invoice discounting even with bad credit score

Probably the most popular reason why small businesses use invoice discounting. Small businesses may have impaired credit scores for a number of reasons, which can make accessing finance very difficult. However, the beauty of invoice discounting is that essentially, the invoice financier is more concerned with the credit worthiness of your clients. If they assess that they can pay you back, then your finance provider will almost certainly deal with you. Since your business has already earned the money in question and you’re requesting it from a creditworthy company, then there is a relative high degree of likelihood that the invoice discounting company will get their money back.

Invoice discounting can fix your cash flow problems

Invoice discounting can ensure your business always has the operational capital it needs to run efficiently and effectively. It can ensure that you keep on top of payments and have enough money to take on new projects and invest in your business.

With invoice discounting, YOUR business is in control

With invoice factoring, you ‘sell’ your invoice to the factoring company who then chase up payment. However, with invoice discounting, you still chase your customer for the money yourself. This ensures that your business remains in control.

Invoice discounting cannot affect your business relationships

Like we said earlier, one of the best features of invoice discounting is that it lets you retain control over your credit control procedures. Some factoring companies may on occasion be a little ‘pushy’ with your long standing clients when chasing money which could ultimately result in you losing that client. There’s no chance of this with invoice discounting, because you’re still collecting the money yourself.

The disadvantages of invoice discounting

time for cautionUltimately, invoice discounting is just like every other form of finance and should be entered into after thoroughly researching whether it is right for your business and/or taking advice from a factoring/invoice discount broker. Although thousands of businesses take advantage of it in the UK, there can occasionally be some disadvantages to invoice discounting.

You may need to invest in your credit control procedures

With invoice factoring, you ‘sell’ the debt to the factoring company who then administer the sales ledger on your behalf and chase the money up themselves. The fact that they do this day-in-day-out means that they are highly efficient at getting invoices paid on-time. Are you business’s credit control procedures as efficient? If you begin to use invoice discounting, then you may need to invest in a credit controller if you don’t already have one.

Invoice discounting is not free

Invoice discounting is just like any other type finance in that there is a cost to it and you need to ascertain that the extra working capital that has become available to you will enable you to generate more profits than the cost of the facility.

What is an invoice discounting broker?

If you’re considering invoice discounting as a way to help the cash flow for your business, then it is often worth talking to a specialist invoice discounting broker. These are highly experienced individuals whose sole focus is invoice discounting and factoring and can be a vital source of advice to ensure you get the right type of finance for your business.

Brokers will ask you questions about your business, understand its ins and outs and assess what sort of finance will suit it best. They’ll also look at all the different providers too, as each provider may have slightly differing terms, conditions and fees which can trip-up the unwary.

factoringsolutionsdeliversThere are two sorts of invoice discounting broker, those that have particular affiliations with certain companies and those that are entirely independent. Obviously, choosing a broker that is tied to certain organisations can put your business at a disadvantage as you’re not getting access to the whole or market like you would with an independent invoice factoring broker. An independent broker will ensure that your business gets unbiased advice and will act in your best interest, not their own.

Factoring Solutions are an independent invoice discounting broker, who work entirely free with businesses. We help you find the perfect solutions for your unique business needs. Call us now on 01827 707680 for a free, no obligation chat about invoice discounting and factoring.