Looking to start a small business in 2021? You may already know that finding and sustaining funding and balancing cash flow are among the biggest hurdles that start-ups face.
More often than not, businesses find themselves stuck waiting for clients to pay their dues or for checks to clear. With insufficient working capital, it increasingly becomes difficult to pay your workers on time and handle all the expenses that keep on piling up.
Fortunately, aspiring business owners now have much broader options for securing funding. Gone are the days when applying for business loans is the only way for entrepreneurs to get more time to make ends meet. How about using all those unpaid invoices to your advantage? This is how invoice financing works.
What is Invoice Financing?
In simplest terms, invoice financing allows businesses to borrow against the value of outstanding accounts receivables. A lender or third party advances you most of what you’re owed in an invoice and sends the rest once the client remits payment.
Through invoice financing, businesses can use the money borrowed to carry out their regular operations, pay employees and suppliers, or expand inventory without having to chase overdue payments from customers.
Which Type of Invoice Financing is Right for Your Business?
Generally, there are two main types of invoice financing. Here’s a breakdown of the differences between the two to help you decide on the perfect solution that fits your business.
1. Invoice Factoring
Also known as debt factoring, this type of invoice financing happens when a business sells its unpaid invoices to a bank or a third-party company. The finance provider buys the debt from you and pays a proportion of the value of the invoice—typically around 80 to 85%—right away. In this case, the lender takes over the responsibility of collecting the invoices from the client.
Invoice factoring is most commonly used by small businesses that don’t have substantial assets or long credit history. It allows you to outsource credit control entirely. This way, you can focus on your core business and not worry about managing invoice payment or debt collection.
2. Invoice Discounting
With invoice discounting, you and your business still have full control of the invoice or ledger. You borrow against your receivables, but you don’t sell them.
The financier will simply lend your company money against unpaid invoices for a percentage of the total value. You and your company will still be responsible for collecting debts from your customers and use that money to repay the loan.
How can Small Businesses Benefit from Invoice Financing?
For small businesses looking to invest and grow, the flexibility that invoice financing provides can be very invaluable. Still unconvinced? Here are some of the ways this funding option can help companies solve financial woes while saving time and resources.
1. Immediate Access to Cash
Unlike big companies with access to resources, small- and medium-sized businesses do not have enough flexibility when it comes to cash flow. It’s also tricky for those who are just starting in the industry to avail of loans from banks or financial institutions because they aren’t that experienced yet to comply with stringent requirements for revenue, credit score, and history.
Invoice financing enables small businesses to survive by speeding up access to money that is owed from debtors—all at profitable terms. Whenever there is an urgent need for cash, one can easily turn to invoice financing for quick solutions that do not increase the financial burden in the long run.
2. Simple Application and Repayment Processes
Invoice financing does not involve collaterals, long-term committed contracts, and complicated documentation. You can even apply for invoice financing in just a matter of hours and with just a few clicks on your computer or phone. Make sure that you do your research on invoice financing providers, compare their rates, and look for the best deals.
The simple process also provides more leeway when choosing how much money you need, how often, and the terms of payment. In invoice financing, the amount borrowed is not paid back until your business clients settle the original invoices. You can also opt to repay the entire due amount through a single lump-sum payment. This flexibility goes a long way towards improving cash flow.
3. Reduces Risks of Bad Debts
Bad debts and late payments can spell disaster for a small business. You may take legal action against customers who fail to settle their fees on time, but that will also be a drawn-out and costly process for you. This option also risks damaging business relationships and adds to the financial woes that may cripple your business.
Invoice financing saves you from all the hassles and troubles of chasing bad debt. Many invoice financing providers have vast experience recovering unpaid invoices and dealing with customers who make late payments.
4. Fuels Business Growth
Besides giving businesses the financial cushion to maintain working capital and meet regular operating expenses, invoice financing also helps small business owners focus on exploring more opportunities for growth. You can use the additional funds available to try out new marketing strategies, invest in new technology and equipment, upgrade existing infrastructure, launch new products and services, and other avenues to expand operations.
Final Word
Working capital deficiencies can, no doubt, disrupt the flow and profitability of any business. But start-up owners need not let inconsistent payments put their companies in a dire position. Instead of relying on time-consuming and cumbersome loans, small businesses can go for a more affordable, convenient, and cost-effective mechanism that lets them put their outstanding invoices to work.
Invoice financing is a viable funding option that helps companies save time while enabling them to secure the business against financial problems in the supply chain. By instantly converting all your outstanding receivables into cash, invoice financing helps your business unlock its potential. If you find a good deal and play your cards right, you can scale your company, increase your profits, and find yourself in a better position in the long run.