Invoice discounting is an excellent tool in business recovery as it enables a company that needs to improve its cash flow to pass its debts on to a third party company.
It is a common and very popular method used as part of a business recovery plan as it is can provide a short term solution that is manageable and flexible while having little effect to systems and processes that are in place.
While passing the debt on to a third party is also allows companies to concentrate and what they do best and that is to get new custom as well as providing a number one service to existing customers.
Invoice discounting improves a company's working capital and cash flow position because it is an example of short term borrowing that allows a business to draw down money against an invoice that has yet to be paid. In simple terms the debt gets sold onto a third party agent.
This is great for companies that are struggling with cash and have a lot of cash held up in sales invoices waiting to be paid and this often means waiting up to 30 days and more to get payment. This can be too long when there are immediate bills to face such as rent and rates. This is why this solution works very well for lots and lots of large companies. This solution is not usually available to small and medium sized businesses.
Although there are lots of advantages of this method, it is worth noting that although a company can draw down against the sales invoice, the arrangement that is usually in place is that a maximum of up to 80% can be claimed. This varies from company to company and depends on individual circumstances and the arrangements in place.
A finance company will also charge a monthly fee for the privilege of this service as well as charging interest on the sum borrowed. There may be some instances where a finance company will refuse to lend against some invoices for many reasons. The main reason for exclusion is the finance company believes a customer to be a credit risk. Overseas customers are likely to be excluded also as they usually have longer credit terms. It is not surprising for a customer in Italy to have credit terms up to 120 days and the standard 30 days would not be accepted as part of the terms and conditions.
The responsibility of raising an invoice and the credit control process will still remain with the company. The company still has to go through the same credit control processes even though they have already received the cash. The majority of finance companies will ask for credit control update on a periodic basis to keep them satisfied that procedures are in place.
This solution is similar to an overdraft. By receiving cash as soon as the invoice is raised, a business can see a much improved position in its cash flow and working capital. As interest is only charged on the amount borrowed, which makes this another reason to be similar to an overdraft and also more flexible that debt financing.
One of the best advantages of an invoice discounting solution is that it be arranged in confidence so customers and suppliers are unaware of this, leaving them feeling that the company is facing difficultly which may result in them taking their business elsewhere. The customers receive the same service and are none the wiser.
As stated the benefits can outweigh the small number of disadvantages there all as it is a solution that is very flexible.
This is a guest post by Louise from Business Recovery who offer a range of business turnaround solutions.