iQep: Insurance & Finance

Invoice discounting is a method that can be used by businesses to draw money against invoices and improve cash flow.  Contrary to invoice factoring, the business retains full control of its own sales ledger. 

Invoice discounting is not suitable for all types of business.  It is only available to businesses that sell services or products to other businesses on credit.  The business must usually have an annual minimum turnover of £500,000 and a proven track record. 

The way invoice discounting works is that the discounter will first carry out a check on the business, including its customers and its systems.  If the check’s results are acceptable, the discounter might choose to advance an agreed percentage of the total amount of the sales ledger outstanding.

The invoice discounter will charge a fee to the business, which is usually a percentage of the total value of the invoices or a fixed fee that the two parties agree.  There is also likely to be a charge of interest on the net amount that is advanced.

Once details of the outstanding invoices have been agreed, the discounter will make a percentage of the total amount outstanding available to the business to draw on as it is needed.  When the business receives payment of any of the invoices, this is passed to the discounter to reduce the outstanding balance.  The business can also notify new invoices to be assigned to the discounter, to further increase the funds available.  This can be a long-term arrangement with available funds growing as a business expands. 

One benefit of invoice discounting is that because the business retains control over collecting its outstanding debts, customers are not normally aware that invoice discounting is in place.  The discounter will usually, however, keep a check on the procedures of the business for managing the sales ledger to make sure they are effective.  If invoices remain unpaid, the business might opt for the discounter to become involved in the credit management at that stage.

Invoice discounting is a service that a business can employ in order to increase their cash flow and free up money that would otherwise be tied up in unpaid invoices.  Fundamentally it is a short term borrowing scheme that can help a business to obtain cash that they otherwise might be waiting for until the customer makes the payment.

A similar service, known as invoice factoring, runs along the same lines, but more financial control is given up by the borrower, meaning the factor chases invoices and collects payment from the invoiced client.  In some cases this is preferred, as the service of collecting payment is very useful.  Nevertheless, with a few businesses, invoice discounting is a more appropriate service to invest in.  An invoice factoring company has employees that are experienced in working with debt control and thus will take the appropriate measures to obtain payment for an invoice. A lot of businesses that choose invoice discounting instead do so as it means that they retain this control, an important factor if they have a specific way of communicating with clients and maintaining client relationships.

When taking the option of invoice discounting, the financial provider will look into the business’ credit control, to ensure they are satisfied with the way that they procure payments.  If they are happy with the methods used, they can be confident that they will receive repayment and that short term lending is a viable option.

Invoice factoring and invoice discounting both offer businesses the chance to acquire fast cash by selling unpaid invoices to a third party, typically a finance company. 

Invoice factoring, also known as asset securitisation, refers to the outright sale of unpaid invoices to invoice factoring companies.  A business receives money and the finance company seeks to recoup the cost of the invoice.  The finance company also receives interest and a handling fee.

Invoice factoring is advantageous as it reduces the amount of resources required for invoice collection.  Invoice factoring offloads the hassle of collecting payment onto the finance company. 

Invoice factoring companies are likely to contact a business’ customers to chase up payment for invoices.  This means that a customer will be aware that a business is using factoring services.

Invoice discounting, like invoice factoring, refers to the sale of receivables.  However, unlike with invoice factoring, invoice discounting companies are not responsible for collecting unpaid invoices. 

Invoice discounting is ideal for those with adequate finance departments as payments are chased up by a business, not an invoice discounting company.  As a result, invoice discounting does not disturb a business’ existing data collection techniques.

Invoice discounting is entirely confidential.  This means that customers of a business using such a service remain ignorant to the process being used to collect invoices.

Invoice discounting is typically associated with lower handling fees and interest rates and it is for this reason that invoice discounting will return more cash to a business. 

There are a number of different types of invoice financing arrangements available, and understanding the terminology involved is important.  Finding the right deal for your business will mean you are in a better position to negotiate an arrangement once you have identified a suitable invoice financing company for your type of business.

•    Invoice Factoring – Invoice factoring is where a factoring company – usually a bank or other financial institution – advances cash against the value of an outstanding invoice to a business.

•    Recourse Factoring – This is where a business uses a factoring company to manage their invoices and lend them a significant percentage of the outstanding invoice, but the factoring company takes no responsibility for the debt.  So, should a debtor fail to pay, the responsibility for the outstanding debt remains with the business, not the invoice financing company.

•    Non-recourse Factoring – In this type of arrangement, the invoice financing company takes responsibility for the debt as well as paying the business for the outstanding invoice.  In this instance, the business entirely outsources accounts department responsibilities to the invoice financing company, and they are responsible for the collection of the debt.

•    Invoice Discounting – Invoice discounting allows a company to access funds over a number of invoices without incurring the costs involved in invoice financing.  The business hands over a bulk of invoices and they receive a percentage of the value of the invoices from the invoice discounter.  They retain responsibility for the outstanding debt, and the discounter takes no responsibility for chasing unpaid invoices.