Invoice finance is a new concept to provide credit to businesses caught in the bundle of blocked cash. According to statistics, almost 82 percent of small businesses fail due to the problem of no availability of liquid cash.
Yes, businesses can solve the complication of cash flow if they manage their finances aptly. But, there are certain underlying causes that don’t have a real solution, and credit sale is one of them.
Businesses that choose to offer credit sales face liquidity problems, and those that don’t lose many potential customers. Hence, they need to know about invoice financing to tackle the issue of cash flow.
Keep reading to know more about invoice financing and how it works.
Table of Contents
What is Invoice Financing?
Invoice Financing or Receivables Financing is a method where businesses can borrow money from the lending institutions against the invoices or amount due from the customers. The unpaid invoices are considered an account receivable, which means the business will receive the due amount at a later date.
The primary purpose of invoice financing is to help the businesses meet their short term operational and other expenses without waiting for the customers to clear their dues. Additionally, the borrowers pay a percentage of the invoice amount to the lender as a processing fee.
How Does Invoice Financing Work?
Generally, businesses sell goods and services in large quantities to customers, such as wholesalers, suppliers, or retailers on credit. In simple terms, the customers purchase the goods and services from the selling company with a promise to pay the billing amount at a later date.
The selling company, in return, provides the customer with an invoice stating the total due amount and the expected due date. However, it is not as uncomplicated as it seems, as the selling company often faces a shortage of funds required to proceed with its regular operations.
To meet the liquidity crisis or short-term goals, the selling company approaches the lending institutions to avail of credits. The lending institutions provide them short-term credits against the invoice in exchange for a percentage of the total invoice amount.
Types of Invoice Finance
Invoice Finance is basically of two types, that are,
- Invoice Factoring
Factoring is a type of invoice finance where the selling company sells its invoices to a third party, known as the factor for 70 to 90 percent of the total invoice amount. The factor charges the remaining 30 to 10 percent of the amount as a fee.
And, on the due date, the factor collects the full invoice amount from the customer. Invoice factoring is best for small businesses as they have a lot more on their plate than running after customers for payment.
- Invoice Discounting
Invoice discounting is more or less similar to any other secured business loan, where a business borrows money against collateral. In this case, businesses borrow the due amount from the lending institutions against the invoices for which they are charged a certain percentage of the total invoice amount.
Invoice Factoring Vs Invoice Discounting
The table below shows the difference between invoice factoring and invoice discounting.
| Basis of Difference | Invoice Factoring | Invoice Discounting |
| Control | The third party or the factor manages the credit control process. | The business or the selling company manages the credit control process. |
| Transparency | The customer is aware of the involvement of a third party. | The customer is not aware that the business or the selling company has approached a lending institution. |
| Adjustment | Business or the selling company is offered the invoice amount in advance by the third party or the factor after purchasing the invoices. | Business or the selling company is offered credit by the lending institution against the invoices. |
| Payment | The customer makes the payment to the third party or the factor on the due date. | The customer pays directly to the business or the selling company on the due date. |
Benefits of Invoice Finance
Following are the reasons why invoice finance is a better option.
- Instant liquidation of blocked cash: The business gets immediate access to cash which they can use for various operational purposes.
- No need for collateral: The loan is given against the invoices; therefore, there is no collateral requirement.
- More growth opportunities: Using the fund for various operational purposes, the company can expand their operation, which otherwise might have been curbed due to credit sales.
- Better customer relationship: Most customers look for credit purchases for a massive quantity of products, and therefore by providing the same, you can convert them into loyal customers.
- Higher upfront cash: Invoice financing is better than any other credit facility as the loan amount directly depends upon the total amount of sales made by the company- the more the sale, the more credit provided.
With invoice financing, businesses can avail funds to meet their liquidity crisis quickly. Also, it is beneficial for small businesses that don’t have enough turnover or assets to apply for secured business loans. Thus, invoice financing solves the cash crunch issue for businesses of all sizes.
Frequently Asked Questions
In Sales Invoice Financing, the selling company approaches the lending institution for credit against the invoice. After proper due diligence, the lending institution offers a loan to the selling company. It charges a fee for the service—the selling company pays back the loan amount to the lending institution after receiving the due from its customer.
As per Purchase Invoice Financing, the customer approaches the lending institution and requests credit from the selling company. The customer shares the invoice with the lender, and after due diligence, it remits the purchase amount to the selling company. Later the buyers repay the amount to the lender along with a fee which is a percentage of the total invoice amount. It is an appropriate option if you are a buyer, i.e. you are purchasing raw materials, goods, or services to fulfil your customer’s order.
Some of the top companies for invoice financing in India are KredX, Flexiloan, RXIL, Invoice Mart, among others.
