Invoice financing, also known as invoice factoring, has been gaining popularity as a way to finance companies that have cash flow problems due to slow-paying commercial clients. It works by providing an advance on these invoices. This advance provides cash flow to operate the business and grow. To learn more details about invoice financing, read “What is invoice financing? How does it work?” You can also learn more about the solution and our programme.
Like any financing solution, invoice finance is not perfect. It has its pros and cons. This article covers the most important advantages and disadvantages of using invoice financing.
Pros | Advantages
Financing your invoices offers a number of advantages for your business. The eight most important benefits are:
1. It improves cashflow quickly
The most important benefit of invoice financing is that it provides your company with immediate capital. This funding should help fix your cash flow and give you resources to pay your expenses and take on new clients.
2. It lets you provide payment terms to clients
Most large commercial insist on paying invoices on 30-day to 60-day terms. If you cannot offer payment terms, your chances of landing these companies as clients are minimal. Invoice finance enables you to offer payment terms to your clients because you can finance your invoices shortly after raising them (as long as the goods/work has been delivered). Therefore, you can offer terms without the negative financial consequences.
3. It helps you manage the credit of your customers better
One of the major challenges of offering payment terms is determining the creditworthiness of your commercial clients. Most invoice finance programmes include customer credit reviews as part of their solution. This feature allows you to outsource this important task to experts.
4. It is relatively easy to get
Invoice financing is easier to get than most competing solutions. The primary requirement is that you have invoices for delivered work that are payable by creditworthy customers. Aside from that, your business must be free of legal problems, and your invoices must be free of security interests in the PPSR
5. The line can increase as you need it
Lines are tied to your invoice balance. Therefore, they can easily increase as long as your invoices increase and the credit quality of your clients remains good. This feature makes invoice financing an ideal solution for companies experiencing an aggressive growth stage and needing financing that can keep up with the level of growth.
6. It uses your invoices as collateral
Most conventional solutions, such as lines of credit and loans, require substantial assets as collateral. These assets can include real estate, inventory, equipment, and so on. Invoice finance is different. It requires only your invoices (accounts receivable) as primary collateral (with some exceptions).
7. It does not require you give up equity
One important advantage of invoice financing is that it does not require you to give up any company equity. This advantage is important because when you give up equity, you also surrender not only a portion of your company but also some of your control in the business. Furthermore, selling equity during financial distress to meet a cash flow crunch may not get you the best price for it.
With invoice financing, the relationship is purely time-based. Once the contract is done (unless it is renewed), everything finishes. You never have to give up any equity in exchange for funding.
8. It can be used by small businesses
Another important advantage of invoice finance is that it can be used by truly small businesses – even those making as little as $50,000 a month. Trying to get a regular business loan or line of credit for those amounts is nearly impossible since many lenders rely on volume to make their profits.
Cons | Disadvantages
Although invoice financing is a great solution, it is not perfect. No solution is. Here are some disadvantages of invoice finance:
1. It costs more than a line of credit
Invoice finance usually costs more than comparably sized bank-offered financial solutions. Consequently, your company should have relatively high profit margins.
2. It solves only one problem
Although loans and lines of credit can often be used for a number of things, invoice financing solves only one problem: cashflow shortfalls due to slow-paying clients. Therefore, it can be one-dimensional and should be used only to solve that problem.
3. It is labour intensive
Invoice financing can be labour intensive for the client. Every time you want an advance, you must submit a schedule of accounts, along with a copy of your invoices and any backup documentation. This task can often be done by email or through online portals.
4. Finance companies contact your customers
The finance company contacts your clients at the start of the relationship and sends them a standard letter informing them that they are managing your invoices. The finance company may also contact your clients if payments are late or if any major issues arise.
5. Finance companies don’t handle bad debt
While finance companies are good at limiting bad debt, there is still a chance that some invoices will not get paid. Finance companies are not debt collection agencies and do not behave like debt collection agencies. This point is very important. Bad debt will go back to your company so you can assign it to an attorney or a collections company. Note that some finance companies do offer a “debtor protection” option for a modest fee.
How to select an invoice finance company
Lastly, invoice finance companies have specialties. It is important that you select the best invoice financing company for your specific situation. Questions to ask your potential partner include:
- How long have you been in business?
- What industries do you work with?
- What are your usual terms and rates?
- Can you provide a list of references? (usually when a proposal is issued)
- How quickly does it take to set up an account?
Can we help you?
We are a leading invoice factoring company and can provide high advances at competitive rates. For more information, fill out our enquiry form and a representative will contact you soon.