What does invoice finance mean?

Monday 10th January 2022

You might have heard people mention invoice finance - it’s an increasingly popular solution for the thousands of SMEs that struggle to maintain positive cash flow and it’s rapidly becoming one of the most common forms of finance that we’re asked to supply.

It can be difficult to get a real handle on the intricacies of invoice finance though. Particularly if you are unfamiliar with the whole idea of asset-based or receivables financing. In this article, we’re going to walk you through the basics, and help you understand why invoice finance is such a popular solution to cash flow issues.

In this article:

  • What is invoice financing?
  • How does it work?
  • Invoice factoring
  • Invoice discounting

What is invoice financing?

In layman's terms, an invoice financing agreement allows you to borrow money from a lender - using the value of (as yet) unpaid invoices as collateral. Imagine you have a client that’s on 90 day payment terms. You’ve delivered the goods (or services) that they requested, and you’ve issued an invoice the very next day. Unless your client decides to settle the invoice ahead of schedule, you’ll be waiting at least three months to realise the value of your invoice.

In the meantime, you still have to purchase stock, pay staff wages, keep up with your rent and ensure the smooth running of your business. Not to mention paying for things like marketing to drive future growth, and expand your business operations.

For a lot of small businesses, this can cause cash flow problems - where cash isn’t flowing into the business fast enough to keep up with the outflow. Traditionally, businesses struggling with poor cash flow have had to liquidate valuable assets or take out expensive business loans to tide them over, but for businesses that should be turning a profit, there is a better way.


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How does it work?

Using an invoice financing facility, you can actually unlock money that’s tied up in your sales ledger by:

  1. Forwarding a copy of your invoices to an invoice finance provider
  2. Receiving an advance that’s worth 70-90% of the invoice’s face value (normally on the next working day)
  3. Waiting until the client pays the invoice, and then settling the account with your lender

This helps to smooth over the gaps between payment, and maintain positive cash flow. Invoice financing agreements also allow you to keep growing your business without worrying about credit control. Particularly if you pick an agreement that makes the finance provider responsible for chasing invoices.

Invoice factoring

Invoice factoring is a specific type of invoice finance that puts your factor in charge of your sales ledger. You issue invoices to all of your clients, but the factor uses their in-house credit control department to chase up on unpaid invoices, and your client pays them when it’s time to settle the account.

Now, this does mean that you’ll need to tell your clients that your using invoice finance and this can have a negative effect on their perception of your business. But invoice factoring does also remove the need to chase invoices yourself, which can save you a lot of time and money. Invoice factoring is also smooth and hassle-free. You simply issue invoices and pocket 80-90% of the stated invoice value, minus any fees.

Invoice discounting

Invoice discounting is a more traditional form of asset-based financing. You still borrow against the value of your invoices, but you retain full responsibility for recovering the debts, which means that you’ll need an in-house department or staff member that can take responsibility for chasing invoices. The advantage to invoice discounting is that you retain full control of your sales ledger, and communication with your client. There’s also no pressure on you to disclose an invoice discounting agreement which means that you don’t have to worry about altering your client’s perception of your business.

Are late payments causing cash flow issues for your business? Find out how invoice finance help

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