Waiting to get paid is one of the biggest frustrations for B2B companies. This is particularly true for companies with a seasonal business, lumpy cash-flows or long payment cycles. One way to alleviate your working capital needs is through invoice financing.
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What is invoice financing?
Invoices can be outstanding 30, 60, even 90 days before payment arrives. Meanwhile, without the cash, you’re passing on opportunities to expand your business or falling behind on important expenses, like payroll.
The good news is that much of this frustration can be reduced with invoice financing. “Invoice financing”, “accounts receivable financing” and “factoring” are interchangeable terms for a financial solution that can turn your unpaid invoices into cash.
The typical components of invoice financing are:
- A company that needs access to cash
- A customer who owes payment on the invoice (also known as the account debtor)
- A financing company who can supply the cash (sometimes referred to as the factor)
How does invoice financing work?
After a company delivers the product or service to their customer, they issue an invoice. The company then “sells” the invoice to the financier, and in return receives an advance, typically between 70-85% of the value of the invoice.
With the cash on hand, the company can take on more work, pay employees or buy additional inventory. After the debtor pays the financier the face value of the outstanding invoice, the business receives a “rebate” for the remainder of the funds, minus a fee that is calculated based on the term of and face value of the invoice.
In this situation, the customer gets favorable payment terms, the company gets cash upfront, and the financier collects a fee. All three parties reap a benefit from the arrangement, and that’s the hallmark of a good deal.
Who can use invoice financing?
Until recently, invoice financing was mainly used by companies in construction, medical services, transportation, staffing, wholesale trade and manufacturing. Today, invoice financing is common in many fields. Small businesses in PR, professional services, marketing and IT are all discovering the benefits of invoice financing.
B2B companies with lumpy cash flow or long payment cycles can most benefit from invoice financing. On the other hand, B2Cs and businesses that don’t issue invoices and are paid on delivery won’t qualify or benefit from invoice financing.
Invoice financing isn’t for every company, but it can be a great alternative to traditional bank loans.
A version of this post was originally published here.