Invoice Discounting vs. Business Loans: A Quick Guide
Most businesses inevitably face cash crunches during their lifespans. This usually happens due to a dearth of funds required to keep the business running for a period until they receive payments from clients. Though this time period is only a short one, usually anywhere between 30-90 days, it’s implication is far greater as the lack of funds to cover operational costs can make or break a growing business.
To tide over such lean periods, a business can opt for financing options available in the market, the most obvious of which is a business loan. A possible way around this problem is to avail of a loan from banks or financial institutions that help businesses with their short-term operational costs, expansion goals, upgrading equipment, etc. It creates a “line of credit” for businesses that they can tap into to keep their businesses afloat until they receive payments from their clients for services/products delivered. By taking care of their immediate capital requirements, the company can then focus on their growth and generating capital.
Unfortunately, it has been observed that smaller businesses or SME’s in India generally find it difficult to gain access to loans due to the risks associated with a smaller business for the bank and rampant corruption in certain sectors of the government. The gap between the funding requirements in India and their availability as wide as INR 2.9 trillion according to a report by the International Finance Corporation!
Traditional banking systems haven’t kept pace with the changing trends while the business world found out alternative financing solutions such as invoice discounting to address these problems. Invoice or bill discounting is a practice where businesses sell their accounts receivables (invoices) to raise funds for their working capital requirements. Not only is it easier to access funds through invoice discounting, but is also quicker when compared to business loans. Businesses usually are given around 80% of their invoice value in one go in 2-3 days.
So, how exactly is invoice discounting different from a business loan? What are the advantages of it over a regular business loan? These differences listed below between a business loan and invoice discounting will help answer just that.
Business Loan vs. Invoice Discounting:
|Long processing time||Quick processing in a couple of days|
|Lengthy paperwork & offline documentation process||The hassle-free, online process|
|Requires collateral or security which can be difficult for smaller businesses||No collateral required (the invoice serves as a pseudo-collateral or an assurance of payment)|
|Business needs to be in operation and making profits for a minimum of 2 years||Business needs to be at least 10 months old.|
|The repayment tenure is fixed and much longer (generally over a period of 1+ years) where you are required to pay in monthly installments.||Shorter repayment tenure (30-90 days). In the case of KredX, there are no such monthly payments.|
|A business loan shows up on your balance sheet hence, becoming a debt.||Since the funds are availed using invoices, it does not impact your balance sheet and hence, no debt.|
|Any defaults or late payments are immediately reported to CIBIL, impacting the credit score of the business.||Only reported to a credit agency in case of defaults in payments at the end of the invoice tenure.|
|Fixed interest rates (generally) for a long tenure.||Short-term funding mechanism at a marginally higher interest rate (since it is collateral-free and for a shorter duration)|
|Interest rates do not fall even if demand is low.||Interest rates are dependent on the market.|
|Selective in loan approvals, mostly only to well-established businesses.||Caters to all business segments, even ones that don’t have access to business loans.|
|Higher debt, higher receivables.||Zero debt, zero unpaid receivables.|
|Interest is paid on the entire lump sum amount you borrow.||Interest is paid on the amount you actually need since money is availed using an invoice.|
|The bank decides the final amount disbursed to the business even if the amount applied for is higher.||The business decides the amount required and produces invoices to the tune of that amount.|
KredX is one such company that helps businesses grow by meeting their working capital requirements through invoice discounting. KredX is India’s leading invoice discounting marketplace that assists businesses to gain collateral-free access to working capital funds in 24-72 hours as opposed to a traditional payment tenure of 30-90 days. This ensures a healthy cash flow and subsequent business growth.
Discounted invoices raised against blue-chip companies enterprises are used to raise funds for businesses, thereby, ensuring healthy cash flow. In turn, the investors get lucrative returns on funds that were sitting idle in a short time frame of 30-90 days at a much higher rate than what banks offer for traditional investments.