Invoice financing and factoring are commonly used methods of alleviating cashflow problems and can help keep a business moving forward with essential working capital. Invoice financing uses external funds from by an invoice finance provider but your business remains responsible for collecting on the invoices issued to your clients. On the other hand, factoring is a service which is wholly provided by an external factoring agent.
Here are some of the advantages and disadvantages of these two alternative financing solutions.
- Speed – this is possibly the biggest appeal for many small businesses. Funds can normally be accessed within 24 hours, and typically between 80%-95% of the value of the invoices submitted. Such access to instant working capital can save a small business from suffering serious financial problems.
- Cost effectiveness – both invoice discounting and factoring provide access to a sum of capital based on the value of your invoices; however, you do not need to use the entire sum. It acts as a line of credit, meaning that you can use it as and when required and only pay interest on the amount withdrawn rather than the entire sum.
- No security required – unlike traditional bank loans, you are not required to provide any security or collateral (personal or business) – the invoices act as the necessary security to secure the funding.
- Hassle-free debt collection – especially in the case of factoring, if you run a small business and don’t have procedures and resources to spend on chasing slow or late paying clients – a factoring service will take care of this for you, removing any need to be involved in such non-business growth activities.
- Transparency – if you decide to use a factoring service, your clients will become aware of this as they will need to be informed that their invoice payment will be dealt with by an external third party and not you personally or a member of your business. While confidential factoring services are available, they typically carry additional costs and fees and require pre-approval of your business also.
- Revoking of invoices – if your business has a history of late or non-paying clients, the costs of funding could quickly escalate and become less beneficial. In many cases, financing is withdrawn when an invoice is 90 days overdue.
- Client relationships – the introduction of a third party in the invoice process can sometimes be detrimental to client relationships, especially in certain sectors where such relationships are key to business success.
Both invoice finance and factoring provide solutions which will work for certain types of business, but they might be unsuitable for others. They offer a quick and easy method of dealing with short-term, temporary and seasonal cashflow shortages, enabling a business to continue moving forward with confidence knowing that working capital is available as long as the sales ledger is healthy.