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Invoice factoring and invoice discounting: the differences explained

POSTED: 26th September 2014
IN: Guides
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A business doesn’t have to be struggling to find itself needing a fast injection of cash flow. Sometimes budding businesses find themselves burning cash even though their top line is going through the roof. This is called overtrading and is a common cause of cash flow problems.

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A business doesn’t have to be struggling to find itself needing a fast injection of cash flow. Sometimes budding businesses find themselves burning cash even though their top line is going through the roof. This is called overtrading and is a common cause of cash flow problems. While the demand for your product or service may be there, it might be the case that you can’t fund the demand.  A lack of cash flow is often no fault of your own if you’re battling late or unpaid invoices from clients and customers.

Invoice factoring and invoice discounting are both types of invoice finance and while they each present very different offerings to businesses looking to seek support for financial growth, they share the same goals – to turn unpaid invoices to cash. Whichever invoice finance option you choose, your financier can help you to do the following:

  • Release funds to improve cash flow
  • Make good use of the time you used to spend chasing payments
  • Grow and progress your business with greater flexibility

Invoice factoring

Chasing unpaid invoices can be exhausting, particularly when you have other things to take care of, but thankfully, factoring can give your business an added boost and release the strain. You can focus on what you do best – improving your company - while invoice factoring will take control of your finances.

Your lender can take control of your sales ledger and collect payments for you. They’ll buy your unpaid invoices from you, supplying you with a high percentage of the cash up front so that you can carry on business as usual.

Here it is step-by-step:

  1. When you raise an invoice, your invoice financier will buy the debt owed to you by your customer
  2. The financier will make a high percentage of the cost available to you upfront
  3. The full amount owed to you will be collected from the customer on your behalf
  4. Once your financier has received the money from your customer, the remaining balance will be made available to you
  5. You’ll pay interest and fees to your invoice financier. This will be discussed beforehand and the amount will vary from lender to lender

For example, imagine you were owed £10,000 by a customer. You may sell the invoice to a financier for £8,500 (85 per cent). Your financier will then collect the money in full from your customer and pay you the remaining £1,500 once the money is received. Interest and fees will be deducted from this figure.

Invoice discounting

If you want to have full control over your accounts, invoice discounting will allow you to do just that. Your invoice financier won’t manage your sales ledger or collect your debts on your behalf, but you’ll still receive the most important part – the money – up front. Your financier will lend you money against your unpaid invoices and you’ll pay them back once the money has been received. You’ll pay a fee, as you would with invoice factoring.

Invoice discounting allows you to work closely with your customers and continue to collect payments from them yourself. This can be ideal if you want to keep your finance options private and would rather keep your financial dealings with your customers personal. 

Finding the right invoice finance option for your business

Invoice discounting is often favoured by larger businesses that already have debt collection facilities in place, but SMEs can benefit too, particularly if they want to maintain strong relationships with their customers. However, for businesses looking to free up time and resources, or those struggling with the burden of collecting payments, factoring may be more ideal. 

If you’d like to know more about our invoice finance solutions or would like to discover other ways of boosting your business’ cash flow, please don’t hesitate to contact us.

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