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Invoice Discounting

  1. 1 Introduction
  2. This is widely regarded as the most efficient manner in which companies can finance acquisitions and business growth without diluting equity.

    Trade debtors are often the largest single class of asset on a company’s balance sheet. The cash turn on the sales ledger generally represents two to three months’ sales.

    Slow payers and the incidence of bad debts cause significant difficulties for companies wishing to grow and ID can provide effective solutions to these problems.

    Unlike an overdraft there is no need to re-negotiate facilities as availability is directly linked to turnover. The ability to generate cash on the completion of a sale allows companies operating at tight margins to negotiate better terms with suppliers for early/ prompt payment discount.

    Advances on invoices range from between 80% to 90% and are usually paid within 24 hours.

  1. 2 Advantages
    1. Finance easily accessible by telephone or the internet;
    2. Immediate injection of cashflow;
    3. Control maintained over the sales ledger collection and management process;
    4. Finance availability grows in line with business growth;
    5. Maximisation of cashflows;
    6. Customers unaware of the finance arrangement with the invoice discounter;
    7. Does not affect customers’ credit terms.
  1. 3 Options
  2. Confidential Invoice Discounting

    The customer is not made aware of the agreement and it is the responsibility of the company to collect the debts in the normal way and remit the monies to the invoice discounter.

  3. Disclosed Invoice Discounting

    Under this arrangement the customer is told that the debt has been assigned to the invoice discounter by way of an assignment clause printed on each invoice.

  1. 4 Charges
  2. Discount Charges

    This is charged on the outstanding balance of monies advanced on a daily basis at rated of between 1.5% and 3% over bank base rate.

  3. Administration/Service Charges

    This is expressed as a % of turnover between 0.1% and 1%.

  4. Considerations

    Finance providers will vary in the types of business they are willing to finance.The following are the criteria which will be considered:-

    1. quality of customers
    2. spread of customers
    3. previous bad debt record of the company
    4. ageing of the sales ledger
    5. quality of "paper trail"

    Bear in mind that invoice discounting and factoring are particularly important for the funding of growing businesses enabling them to finance rapidly growing sales. More cash can be raised by this method than with a bank overdraft and the cost is comparable.

    Before entering into an agreement the following should always be considered:-

    1. could invoice discounting or factoring be a useful way of raising short-term finance
    2. what effect will these source of finance have on other funding opportunities or existing arrangements
    3. establish whether the credit limits proposed on each customer account will match the financial needs of the business as it expands
    4. don’t view factoring as core finance- it should only be used to finance working capital
    5. funds raised should be used for maintaining working capital such as stock purchases or creditor settlements. It should not be used to fund longer-term assets.