How invoice financing can help your business

Could invoice finance help your business? This form of funding, sometimes known as factoring, has hit the headlines in recent weeks because it was one of the services offered by the collapsed financial-services firm Greensill Capital. But the controversies around the Greensill affair should not put businesses off invoice finance; in the right circumstances it can be a useful alternative to better-known types of funding.

Invoice finance is fairly simple. When your business sells a good or service to a customer, it normally has to wait for a period for the invoice to be settled – perhaps 30 days, but often longer. Invoice-finance firms offer to pay you the value of the invoice upfront, minus a fee for their services, with the debt settled once the customer pays up.

The most obvious advantage to this arrangement is that it boosts your cash flow, something many smaller businesses struggle with, particularly as they expand. You no longer have to wait for your customers to pay their invoices, or worry about whether they will do so on time.

But there are other important benefits too. One is that invoice finance makes it possible to offer your customers more generous payment terms, which may be crucial in the competition for their business. 

If your invoice-finance provider is settling the bill straight away, it is not a problem for you to give your customer longer to pay its invoices – 90 days or more, say. Also, invoice finance is flexible. You will be able to borrow more as your business grows, simply because you will have a larger stock of invoices to borrow against.

This type of finance automatically scales up or down in line with the size of your business; by contrast, bank loans and overdrafts are typically fixed in size.

In addition, businesses generally do not find invoice finance difficult to secure, as long as they are working with reliable customers. Nor do you have to put up security against the loan, whether the company’s assets or a personal guarantee. The value of the invoice provides the lender with the collateral it needs to protect itself.

For all these reasons, invoice finance has steadily increased in popularity over the past decade, particularly as more businesses have become familiar with the way it works. One recent survey suggested that one in four businesses with a turnover of between £1m and £500m a year had used invoice finance.

However, there are some potential downsides to consider before taking the plunge. One problem is that not all businesses can make use of invoice finance. It works well for businesses that sell products and services to other businesses, whose creditworthiness lenders can easily assess. But it is not usually available to firms that serve consumers. Also, bear in mind that invoice finance solves one specific type of funding issue; it works well if your business is having problems with cash flow, but is not so appropriate for other purposes. If you are looking to raise a chunk of capital to fund an investment, for example, invoice finance may not be suitable.

Some companies also worry about reputational damage. They fear customers may be wary of firms that appear to need to raise money this way. Invoice-financing arrangements do not always have to be disclosed to customers – and as this form of funding increases in use, customers are less likely to worry about it – but for some, this remains a concern. If so, avoid factoring, a type of invoice finance where the lender takes on responsibility for chasing the invoice from your customer.

Cost is the other issue to consider carefully. Invoice finance can be more expensive than other types of borrowing. You can typically secure up to 95% of the value of your invoice when passing it on to an invoice-finance provider, but you are still giving up a chunk of the value of the work you have done in order to receive an early payment. It is therefore important to shop around carefully for the best deal for your business, which will vary depending on its specific circumstances.