A SME’s ideal gift would be making, selling, and then collecting the cash on its products before it has to pay its creditors. It would not need to worry about raising money, paying it back or paying interest or dividends. Its trade creditors would in effect be funding (gifting) the business with cash flow.

Amazon the global online seller has had that gift, but most companies can only dream of it. The reality is they need to spend money to buy stocks and invest capital in debtors who in some cases will not pay for months – far later than trade creditors need to be paid. For most companies therefore, working capital is represents an investment.

Many companies do rely on their trade creditors for some of the investment in working capital, but that is far less than they need, so they often borrow. This means they need to find the cash flow to pay periodic interest or if else face financial distress and ultimately insolvency. Financial distress can also occur because debtors fail to pay.

Research cited in CityAM has revealed several reasons cited by small businesses as to why they wrote off billions of pounds collectively owed by debtors. Top of the list was insolvency of the debtor followed by doubt that the debtor had funds to pay.

Equal 3, 4, and 5th place reasons cited were lack of time to chase, risk of damaging the relationship, and no funds to pursue the debtor. Fewer than 5% of respondents said they did not know how to claim.

These are all concerning reasons for SMEs writing off collectively £6 billion of debts in 2015/16 according to Direct Line. The average write off was over £31,000 and a staggering 10% of companies each wrote off over £100,000 owed by bad debtors.

These alarming losses will have meant the company had a shortage of cash flow needed for running its business, such as: paying overheads, managing working capital, growth, or research and development. The shortages might have been made up by borrowing but that solution will have led to further costs (of interest) and reduced bank funding capacity.

Unlike many factoring or invoice discounting facilities, single invoice finance does not force the business to commit to sell all of its sales ledger.  The company will avoid facility-related fees such as servicing charges, an arrangement fee, and exit fee or a renewal fee, because no facility is created between seller and buyer.  It is a one-off, pay-as-you-go, arrangement so is ideal for occasional cash shortages, such as paying a VAT bill or fulfilling an unusually large order.

The way it works is as follows;

The company agrees to “sell” the invoice to the funder and the funder ensures that the debtor agrees to the sale and that they are happy to pay the funder direct.  Once that assurance is given then the funder can advance some 87% of the value of the invoice.  Obviously the funder is really only interested in the credit risk of the debtor as opposed to the invoice issuer which can be of a big benefit to start ups or those with poor credit ratings and businesses that do have a bit of a “one off” need.

The cost of this type of funding is usually 3% per month

Thanks to Dr Permjit Singh from Cash for invoices Limited for this explanation


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