Receivables finance includes factoring and discounting.

Factoring is present when a business assigns their invoices to a third party and the factoring company has full visibility of the sales ledger and will collect the debts when due.

• The customer has knowledge that the invoices have been factored. (This is the typical route a lot of funders offer, however – some can offer Confidential Factoring)
• Factoring gives businesses up to 90% pre-payment against submitted invoices
• This enables improved cashflow, and reduces the need to wait for payment
• The company may receive their funds up to two days after invoices are sent out. Many factoring companies will offer to send money same day (TT Payment, usually carries a charge) or by BACS (Free)
• A business can choose a ‘selective’ factoring or invoice discounting facility, dependent on the funder.

Typically, with Invoice Discounting, the borrower will have more control over their ledger. Again – like factoring, there is the option to do this on a completely confidential basis.

• Invoice discounting is an alternative way of drawing money against the invoices of a business
• The business retains control over the administration of their sales ledger
• Invoice discounting usually involves a company reconciling with their invoice financier monthly
• With factoring – each individual invoice is uploaded – with Invoice Discounting, a bulk figure is uploaded and then drawn down against with the monthly reconciliations showing where money is allotted to
• Under a selective facility a business can opt to factor (i.e. lend) or invoice discount just some of the submitted invoices
• A selective facility is a good option if a business needs a certain amount of cashflow guaranteed each month or if one or two customers are good payers.

The main difference between factoring and invoice discounting is that with factoring, a funder will have full visibility of your sales ledger and maintain this by chasing debts on your behalf. Invoice discounting on the other hand, allows you to keep your credit control in house but as we already discussed, it would require a monthly reconciliation with the invoice financier. Naturally, management fees for invoice discounting are usually a lot lower, however a company must demonstrate they have the correct procedures in place to support an Invoice Discounting facility.

Factoring solutions offer the seller of a receivable a wider service than just the advance of funds to shorten its cash conversion cycle as the entity buying the receivable will also usually take on the responsibility of collecting the debt.

Factoring can take several forms. For example, a factor may agree, subject to limits, to buy the whole of a seller’s receivables. This is known as whole turn-over factoring. Conversely, a factor may select which invoices he wishes to buy. It can be with or without recourse to the seller and may or may not be notified to the buyer or obligor.

The vast majority of factoring is domestic and individual invoices are often of a low value. Cross-border factoring is possible using the two-factor system. One factor is in the buyer’s country (known as the ‘Import Factor’) and the other in the seller’s country (known as the ‘Export Factor’). The two Factors establish a contractual or correspondent relationship to service the buyer and the seller respectively under which the Import Factor in effect, guarantees the receipt of funds from the importer and remits payment to the Export Factor. Typically, the two factors use an established framework such as the General Rules for International Factoring (GRIF), provided by FCI. Read more about factoring here.

Receivables discounting solutions tend to focus on shortening a seller’s cash conversion cycle, as opposed to encompassing debt management and collection aspects. The degree of disclosure to the debtor under this type of facility varies, ranging from full disclosure to no-disclosure, depending on the level of comfort taken by the purchaser of the receivables over the nature and standing of the seller. In most cases, the greater the control the financing entity/purchaser of the receivables manages to attain over the process, the better the discounting conditions offered.

A receivables discounting facility without disclosure to the debtor will grant the seller of the receivables full confidentiality, and therefore avoid reputational hazards. Most receivables discounting is without recourse to the seller so as to ensure de-recognition of the receivables from the seller’s balance sheet (so-called “true sale”) but recourse is normally retained for commercial dispute e.g. where the buyer refuses to pay because the goods or service are defective. Read more about invoice discounting here.

• Sellers do not have to wait for the payment of invoice as factors pay invoices before invoice maturity at desirable discounts.
• The early sale of receivables diminishes the risk positions associated with debtors.
• Sellers are able to better manage their cashflow and do not have to worry about bridging liquidity gaps as receivables finance helps to free trapped liquidity.
• Receivables factoring allows firms to expand their business by allowing debtors prolonged credit terms.
• Sellers also receive insightful advice from factors about the credit strength of the debtors which assists them in striking better deals in future.
• Receivables finance includes the translation of a company’s debts into cash without having any unwanted effects on the company’s business.

Rather than waiting 30 – 90 days, an invoice financier can pay for most of the invoice amount up front, and the interest rate is the amount charged for this service. Interest rates are often linked to base rates the bank will pay for borrowing money, such as the LIBOR, as well as a management fee.

At first instance, receivables finance lenders can advance around 90% of the invoice amount value up front, whether that be through invoice discounting or factoring. Once the invoices are paid by the end customer, the borrower will be paid the remaining difference, excluding interest rate and management fees. Even if the company has existing finance arrangements such as an existing bank loan or overdraft, invoice discounting or factoring may still work for a business.

Normally, a lender will analyse the business prior to implementing a factoring or invoice finance facility. They may audit the financial records of the business and list the approved customers, and the decision is down to legal and contractual implications such as security and existing lenders.

The company should always read the offer letter and look at all (including the following) costs:

• Discount costs
• Service or management fees (including the minimum service fee which is normally derived as a % of the service fee)
• Audit charges
• Re-factoring charges
• Transactional costs
• Notice period for ending service and associated fees
• Annual service costs
• Trust account costs
• Additional costs for services such as credit protection

There are three parties involved directly in receivables finance:

• the funder who advances money against the invoice or receivable
• the business (or customer) who sends out the invoice
• and the debtor who is required to pay for the invoice

A brief explanation: The receivable, associated with the invoice for services or goods acts as an asset and provides the company the legal right to collect money from the debtor. A percentage of funds are then advanced against the value of the invoice.