A new form of financing can help small firms plagued by late payments.
One of the biggest problems facing Britain's small businesses is late payments. Payments processor Bacs estimates that small companies are now collectively owed £6.7bn in overdue invoices. But what if it were possible to unlock the value of those bills?
Invoice finance is designed to do exactly that, and small businesses are signing up in record numbers. Some 40,000 firms took on this form of funding last year, according to figures just published by trade association UK Finance. Total advances now standat £22.7bn.
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The principle of invoice finance is that you are borrowing money against bills your customers have yet to settle. Rather than waiting for payment, you ask an invoice-finance provider to advance you the cash straight away, minus its fee for lending; when the customer finally coughs up, the advance can be repaid.
There are essentially two variations on the theme.With factoring, you hand over the invoice to the funding provider, which then takes responsibility for chasing payment from the client. Alternatively, with invoice discounting you remain responsible for collecting the money and repaying your loan, so you maintain your relationship with the customer.
Help with cash flow
Invoice finance also seems a better fit for many growing firms. Traditional bank overdraft facilities are arranged at a fixed point in time on the basis of the business's trading to date. By contrast, invoice-finance facilities adjust over time according to the business's revenues; if a small business bills more as its sales increase, it automatically has access to larger invoice-finance facilities.
In a volatile environment where firms need to react quickly to changing circumstances, this can be very useful. It provides the firm with a constantly evolving source of funding appropriate to its current growth. Rather than having to return to the bank to renegotiate funding facilities, the small business has increased financing on tap.
There are potential downsides too, however. Invoice finance is often more expensive than bank funding, since it is meant for short-term use. It's only an option for firms with an established track record of sales and a book of invoices to borrow against. And it can make it more difficult to secure other forms of longer-term credit. There is also the fear that customers will regard invoice-finance arrangements as a sign of weakness, particularly where a factoring approach means the borrowing is clearly visible to them. Still, with late payments so common, invoice finance will keep growing.
