The positives and negatives of invoice discounting

Survey respondents report poor awareness of alternate funding options.
Survey respondents report poor awareness of alternate funding options.

Invoice discounting is a financial service that allows a company to access a large percentage of its pending invoice payments in advance.

The company essentially sells its outstanding invoices to a lender in exchange for a cash advance that is equal to up to 90% of the amount due.

If your company conducts business-to-business transactions and your clients have a reliable history of paying in full and on time then you may be eligible to apply for an invoice discounting program.

To help you determine whether this type of financing is suitable for your company we’ve listed the positive and negatives of invoice discounting below.

Advantages of Invoice Discounting

  • Immediate Access to Client Payments – The ability to withdraw payments as soon as they’re added to your sales ledger can greatly improve cashflow and drastically speed up business progression. Even if you typically operate on a net-30 or net-60 basis you can use invoice discounting to start seeing new funds in your company’s bank account on a daily or weekly basis.
  • Your Available Funds Grow at the Same Rate As Your Sales – Without invoice discounting you have to wait for a client to pay in order for a sale to be finalised. In many cases this can mean waiting one to two months before the profits of a sale are realised. With invoice discounting you can take a cash advance on a sale long before a client pays, so the cash available to your business will grow at the same rate as your sales ledger, with virtually no delay.
  • Improved Profitability Through Expedited Investments – With the ability to pay suppliers sooner and capitalise on key investments as they become available your business will experience a significant increase in productivity and growth. Some of the largest companies in the world have used invoice discounting and factoring services to facilitate expansion at a rate that would not otherwise be possible.
  • Enhanced Financial Planning – With the ability to rely on payments at a set date in the near future (rather than two months down the line) you can greatly improve the efficiency and consistency your financial planning efforts.
  • Additional Financing Options – Most invoice discounting companies will offer other financing services like trade/transactional finance and cashflow loans. Since you’ll already be in good standing with the lender you’ll have immediate access to such services.
  • Remaining in Control of Invoicing – Unlike factoring (the most similar financial service), invoice discounting does not require you to relinquish control of invoicing over to the lender. You will still invoice your clients as usual and once they pay you would then be responsible for repaying the invoice discounting company. Adversely, with factoring you would have to let the factoring lender invoice your clients, and this could present problems as some clients may be curious or weary about paying through a third party.

Disadvantages of Invoice Discounting

  • You Lose a Percentage of Your Profits – As mentioned, when you sign over invoices to an invoice discounting company you’ll be selling them at a discounted rate (hence the name of the service). The percentage of the invoice that the lender will be willing to pay will depend on a variety of factors but will usually range from 80%-90% of the invoice value.
  • Obtaining Approval is Difficult – Financing companies that offer invoice discounting are usually very selective about which businesses they will extend this service to. They may want to pre-approve your clients and conduct a review of your payment history.
  • Defaulting Could Put Your Company At Risk – If you default on an invoice discounting loan not only would your company sustain damage to its credit rating, it would also be in immediate danger of being taken to Court over the delinquent debt. The end result could be the liquidation and dissolution of your business.
  • Only Suitable for Larger Companies – Invoice discounting is only an option for established companies that conduct a volume of business large enough to justify this service. If you’re a small business owner, invoice discounting programs may not be a practical option, but you may be able to obtain similar loans on a transactional basis.
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