How to Forecast Cash Flow with Factoring
A critical option when cash flow forecasting using Figurewizard is for factoring; supply chain finance. Selecting it hugely improves cash flow and the bank.
Cash flow by factoring or confidential invoice discounting (CID) is a facility which is enables businesses who sell goods and services on credit to other businesses to monetise their accounts receivable as a whole. It is not always open to such businesses in their first year.
Supply chain financing on the other hand raises cash from specific customers; usually large and well-established companies, to underwrite extended credit facilities. Unlike factoring this is likely to be available to new businesses that can evidence trade with such customers
Figurewizard and Factoring
When working with Figirewizard the factoring / supply chain financing option can either be selected or removed by editing the form for Capital; Bank: Loans or, ideally using the What-If calculator and planner.
The Difference Between Factoring and Invoice Discounting
Factoring and invoice discounting both operate on the same principle: The factor advances cash against an agreed percentage of your invoices (including VAT); typically 80% of their value, within 48 hours. As these are settled by your customers the business will receive the 20% balance less their service charge and interest. The benefits are that most of the cash comes in within 48 hours of raising the invoices, as opposed to waiting weeks or months for it.
Factoring
Factoring differs from straightforward discounting in that your customers don’t pay your business, they pay the factor direct who does the job of collecting and chasing the money, something they do effectively but discreetly.
Confidential Invoice Discounting
Confidential invoice discounting means that the business does the job of collecting the cash and remitting it to the discounter; an option that is usually only open to larger companies with invoicing of £500,000 + p.a. The fact that your business is discounting its invoices is not disclosed to your customers; hence ‘confidential’.
What Does Factoring or Invoice Discounting Cost?
Your business would pay a service charge based on invoicing. That would apply to all of your invoicing for sales made on credit through your sales ledger. The service charge does not apply to other sales such as for cash or by credit card. Factoring service charges run from around 1% - 3%, Confidential Invoice Discounting service charges from around 0.5% - 2%.
Your business will not be bearing the high costs associated with credit control whem factoring, nor should there be cheque clearance charges for individual payments from customers as this is included in the service charge.
Interest charges are roughly in line with those charged by high street business banking departments. As with any overdraft facility, interest is only payable on net debt; i.e. cash advanced less cash collected.
What Security Do Factors / Discounters Call For?
Invoice factoring generally depends only to your invoicing for as collateral; meaning that personal guarantees from the directors or debentures and other charges on the company are not usually called for. The sales ledger is expected to be efficiently maintained therefore. Invoices can only be raised once the delivery of goods or services has been made; credit notes which fall due must be issued promptly and any queries or disputes which are likely to delay payment, must be resolved as soon as they may arise.
A professional factor or discounter's agreement should not include penalty charges f any kind. If this is the case - avoid. Note that most reputable factoring companies will be members of ABFA (Asset Backed Finance Association).
Invoices That Do Not Qualify for Factoring or Invoice Discounting
Factoring is not generally available for transactions involving stage payments. Nor will factors advance cash against invoices for any client with a known history of bad debts. Any qualifying debts which have become seriously overdue, e.g. by more than 90 days past due, will be deducted from your next availability, so if you are using confidential invoice discounting and therefore responsible for collecting the cash, good credit control remains very much in your interest.
How Will My Bank React If I Factor or Discount My Invoices?
Banks do not regard unpaid debts from your customers as prime security, nevertheless if you decide to discount the bank may seek to reduce the overdraft limit as your sales ledger will no longer be part of their collateral. Your increased cash flow will more than compensate for this as checking our interactive Factoring / Invoice discounting chart will illustrate.
Using Cash Flow from Factoring
The inflow of cash which results from factoring or invoice discounting may feel like winning the lottery at first, but your approach towards your finances should remain cautious to reap the full benefits of the facility. This will enable the business to build up its working capital and operating cash flow to the point where factoring or invoice discounting is no longer needed.
Employing factoring to finance extended credit, long term commitments or dividends is not recommended. Doing so will defeat the principal benefits arising from factoring, which is greatly enhanced cash flows that will enable the business to pursue new opportunities.
Factoring is ideal for example in enabling your business to undertake purchases where letters of credit are required without crucifying cash flow. Allowing for a % of purchases by letter of credit then viewing your budgeted cash flow forecasts both with and without invoice discounting being selected will clearly demonstrate this.