Invoice factoring and cash flow

Invoice factoring and cash flow

By Russell Bowyer
Invoice factoring and cash flow

Invoice factoring and cash flow and the use of Cash Forecaster to help you in your business

Your business may already be factoring its invoices or invoice discounting. Or alternatively you might be considering the use of factoring or invoice discounting as a source of business finance.

So what is invoice factoring vs invoice discounting?

The main difference between the two is your customers will know you are ‘financing’ your invoices if you using factoring. Whereas they won’t necessarily know if you invoice discount.

Factoring your invoices

Factoring, which is also known as ‘debt factoring’ involves a company that finances its invoices. They also managing your sales ledger. This factoring company will collect the money owed by your customers, which means they will know you’re using invoice finance.

So the procedure is, as follows:

  1. When you raise an invoice, the factoring company will buy the debt owed to you by your customer.
  2. The factoring company will make a percentage of the invoice total available to you upfront, which is usually between 80-90%.
  3. They then collect the full amount directly from your customer.
  4. Once the factoring company has received the money from your customer, they make the remaining balance available to you. This will discharge the advanced debt they originally made to you too.
  5. You will pay invoice factoring costs – a percentage fee based upon the volume of invoices you discount, plus interest on the outstanding advance you have with the factoring company, which is effectively like a bank overdraft. Invoice factoring rates will depend on the company you choose and their assessment of your company.

Invoice discounting your invoices

With invoice discounting your customers will not know upfront that you are financing your invoices. Also the invoice financier will not manage your sales ledger or collect debts on your behalf, this responsibility remains with you.

Invoice discounting is a straight forward lend against your unpaid invoices, at an agree percentage and up to around 85% of the invoice total. The invoice discounting company will charge the two fees, one as a percentage of the total amount of invoices financed together with an interest charge on the amount of ‘borrowing’, similar again to an overdraft balance.

When your customers pay their invoices, the money goes directly to the invoice financier, as you will need to provide them with the invoice discounting company’s bank details, which your customers might well realise when you make the change, that you are invoice discounting, but it is not as obvious as factoring. As your customers pay off their invoices, this reduces the amount you owe and means you will be able to borrow more money on invoices from new sales up to the percentage you originally agreed.

Advantages of factoring

  1. Your sales ledger will be looked after by the factoring company, which frees up your time to manage your business.
  2. The factoring company will credit check potential customers meaning you are likely to trade with customers that pay on time and they will also provide you will insurance against bad debts.

Advantages of invoice discounting

  1. Invoice discounting can be arranged so that it is confidential, so your customers will not know you are borrowing against their invoices.
  2. As you are not ‘farming-out’ your sales ledger, you maintain closer relationships with your customers.

If you are considering taking on either factoring or invoice discounting and you want to prepare cash flow forecasts to see the affect it has on your business and its cash flows, Cash Forecaster has this built in.

You can use our software to prepare cash and profit forecasts, before you make the final decision to take on either factoring or invoice discounting.

Your business must be a ‘Business to Business’ type business to use both factoring and invoice discounting, as invoice finance companies will not finance invoices to individuals

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