Businesses can gain access to a range of external funding options in the Indian financial market. In the last ten years, the number of institutional sources of financing has also increased significantly. Businesses can thus resort to several financiers like investors, banks, NBFCs and fintech companies today to meet their funding needs.
Alongside traditional funding facilities like commercial or mortgage loans, enterprises can now also turn to options like invoice factoring to fund their operations. It is one of the popular invoice financing services, alongside invoice discounting. Invoice discounting and factoring services combine to help businesses leverage their unsettled bills for cash assistance before the receipt due date.
What is Invoice Factoring?
Invoice factoring is a form of debtor financing service and helps avail external funding based on a business’s receivables. Also known as debt factoring, it allows businesses to sell their client’s unsettled bills to a third-party, called factor for funds.
Such third-party, which is usually a financial institution, extends a percentage of the invoices’ values as a cash advance ahead of the due date. Under this method of financing, debtors are aware that the business is leveraging their unpaid invoices to avail a loan.
This financing facility allows companies to address their short-term capital requirements conveniently. Enterprises can thus optimise their cash flow and finance their operations with ease by tapping into the tied-up debtor balances.
The cash advance, thus received, can be put to a host of uses. Businesses can cover shortages in working capital, pay suppliers in advance, invest in growth operations, etc.
How Does Invoice Factoring In India Work?
It is essential to understand how invoice factoring functions before availing it. Businesses usually sell their products or services in two ways, upfront payment and credit sales. Under credit sales, companies issue invoices on their debtors who approve these invoices for payment at a later date within a window of 30 – 90 days. During this period, any shortage of cash inflow can be met through both invoice factoring and bill discounting. Here’s how the former works –
- A business submits the approved invoices from their debtors to its preferred financier.
- This financial institution, also known as a factor, checks those bills and based on their assessment, extends a certain percentage of their value as a cash advance.
- Following a disbursal, the factor initiates the process of payment collection from the borrower’s debtors.
- Once this financier has collected all outstanding payments, it forwards the balance amount, minus the service fee, to the borrower.
What Are The Pros of Invoice Factoring?
The various advantages that a business can access by opting for a bill factoring service are –
- Availability Of External Funding
Invoice factoring is one of the simplest ways to avail cash advance for business. Compared to facilities like a business loan, it involves fewer hassles, making for a handy source of cash inflow. It allows businesspersons to address any monetary emergency conveniently.
Debtors usually repay within a timeframe of 30–90 days, which ties up funds that a business could have utilised to mitigate necessary expenses. Bill factoring allows companies to release the held up cash ahead of payment due dates. A business can use this cash advance to take care of various financial obligations, like procuring raw materials , paying salary, day-to-day operations, etc.
- Saves Time On Administration
A primary feature of invoice factoring is that the financier assumes the responsibility of recovering outstanding payments from debtors. Hence, it allows the borrower to save time on seeking repayments and focus on other important business activities.
- Expertise In Credit Control
Factors are typically seasoned in payment collection from debtors. When a borrower opts for bill purchase, it is also privy to the expertise such a financier brings in this regard. Thus, it makes the process more efficient.
With invoice factoring, financiers usually provide a cash advance of up to 80% of the bills’ values. Depending on the accounts receivable of a business, the loan amount can be considerable.
The repayment dates of debtors may vary from one to another. One client may repay 30 days from the due date, and another might set a due date of 90 days. By availing bill purchase service, businesses can optimise their cash flow without worrying about different repayment dates.
What Are The Cons of Invoice Factoring?
A few disadvantages of this financing facility are –
- Affects Relationship With Clients
When a business opts for invoice factoring, its clients are aware that their bills are sold to a third-party. Some debtors might consider it as a move against their confidence in the business. Hence, it can sometimes impact the relationship an organisation has with customers.
- Relinquishing Credit Control
The factor is in charge of payment collection from debtors. It equates to an organisation giving up an element of control from its administration.
As an alternative, several businesses opt for invoice discounting. With KredX, businesses can avail cash advance via the invoice discounting services within 24 – 72 hours*.
How Is Invoice Discounting Different From Bill Purchase?
Both these financial services are subsets of invoice financing. Businesses can submit unpaid bills from debtors with a financier to receive a loan with these two services. The primary point of difference in invoice factoring vs discounting is regarding confidentiality.
In the case of invoice factoring, the factor collects payments from debtors. So, customers know that their approved bills are utilised to avail cash advance. With bill discounting service, the borrower collects payments from its clients. Hence, its clients aren’t aware of it.
Also, the loan-to-value ratio is usually higher with bill discounting compared to invoice factoring.
With KredX, India’s leading integrated cash flow solutions provider, businesses can avail invoice discounting services with minimum hassle. It allows companies to access the capital otherwise tied up in unpaid invoices.
Nonetheless, businesses should always opt for a financing service depending on their fund requirements and customer relationship.
A. Bill factoring may not bode well with some customers as it involves third-party collecting payments on the borrower’s behalf.
A. Depending on the financial institution, it may take somewhere between 2 – 7 days for the application to be processed and another couple of days for loan disbursement.
A. You can optimise your business’s cash flow by availing cash advances against invoices before the due dates. Your business can also benefit from a factor’s expertise on credit control if it’s more effective than what your organisation has in place.
A. An uncollectible invoice, i.e. a bad debt, is deducted from total accounts receivable. Hence, it lowers the Monthly Recurring Revenue.
A. Invoice discounting usually provides a higher percentage of the accounts receivable than bill factoring. Also, the former ensures confidentiality. If these are your priorities, bill discounting may be more suitable.