Debtor Finance, also known as Invoice Finance, is when you borrow against the value of your unpaid businesses invoices to release cash to reinvest back into the business. This cash is then typically used for activities that bring in more sales such as acquiring more inventory or to invest into marketing.
There are two types of Debtor Financing – invoice factoring and invoice discounting.
Invoice factoring is when the lender gives you a line of credit against your unpaid invoices. The lender then manages the accounting and collection of these invoices on your behalf.
Your business will receive up to 80% of the invoice amount upfront less any fees, with the remaining 20% paid to you when the invoice is paid.
As all the collection of the invoices is settled directly with the lender, invoice factoring is more suitable for small or growing businesses that may not have the time to chase up outstanding invoices.
Invoice discounting is when lender gives you a line of credit against your unpaid invoices, however, you instead sell your invoices to the lender upfront at a discounted rate (80%), with the remaining balance paid to you when the invoice is paid.
With invoice discounting, your business will manage the accounting and collection of invoices, with customers paying you directly.
This makes discounting suited to large companies with their own credit and accounting departments. Invoices are generally issued in batches, and your business must independently manage the reconciliation of invoice payments.
Debtor financing is suitable for businesses which issue large predictable invoices, and their payment terms mean there is a large timing gap between the invoice issue date and the time they get paid.
For invoice financing to be valuable, you should be able to demonstrate a strong history of getting paid from your debtors, as well as have a clear business plan of what you will use the money for once you borrow against your invoices.
The Debtor Finance arrangement with your bank will also have a loan facility limit. This limit can also grow with you as you demonstrate your ability to put the extra capital to good use and consistently collect on your invoices.
You can borrow up to 80% of your invoices, depending on the strength of your business and your cash collection cycle.
Debtor financing allows you to release the value of your invoices sooner so that you can keep investing in business growth. Funds released from Debtor Financing are usually spent on revenue generating activities such as marketing or acquiring more inventory to drive more sales.
Another benefit of Debtor Finance is that you do not need to provide property as security. Instead the bank will take security against the unpaid invoices and future cash flows of your business.
The costs of Debtor Financing are:
In addition to normal commercial loan supporting documents, you will need to provide:
To draw down on the facility you will need to provide your goods or service and send the invoice to your bank. The bank will release new funds into your nominated business bank account up to the agreed percentage of the invoice.
There is an interest cost associated with the funds borrowed against your invoices. You must ensure that you are eventually able to collect on the invoices to pay back the loan, as well as you are able to make a return on your new sales that is higher than the cost of the capital.
The steps to setting up your Debtor Finance Facility are: