Maintaining a healthy level of cash flow can be problematic for businesses of every kind, particularly in the early days when there are limited cash reserves. However, there are certain industries and sectors that face greater cash flow pressures than others.
Businesses that typically experience natural shortfalls in working capital are those with a significant delay between the provision of a service and payment being received. Construction firms and recruitment agencies are just two examples of businesses that must foot the bill for upfront costs but may not be paid by their clients for 30, 60, 90 or even 120 days.
One way an increasing number of businesses are bridging this cash flow gap is by using invoice finance to release the cash tied up in their invoices. But how does invoice finance work and what specific challenges does it help businesses in different sectors solve?
How does invoice finance work?
There are a number of different products included under the umbrella of invoice finance. Invoice discounting, invoice factoring, spot factoring and selective discounting are variations on a similar theme. All of these finance options are designed to release the cash tied up in unpaid invoices within as little as 24 hours of their issue.
The process is simple:
- You set up an arrangement with an invoice finance provider
- Once an agreement is in place, you send copies of invoices issued to your customers to the invoice finance provider
- The provider pays you between 70 and 95 percent of the value of the invoice almost immediately
- When the customer pays the invoice 30, 60 or 90 days later, you receive the balance of the invoice minus the finance provider’s fee
This frees up the working capital businesses need to operate effectively. They are able to pay employees, pay suppliers, take on new orders, buy new equipment and take advantage of the business opportunities that come their way.
What industry-specific problems can invoice finance solve?
Businesses that issue invoices to creditworthy commercial customers can use invoice finance to help solve the particular cash flow issues they face. These are some of the industries that commonly use invoice finance…
Long payment terms are nothing new in the construction industry. The collapse of Carillion shed light on the 120-day payment terms that are common in the industry, with some subcontractors having to wait more than 200 days to be paid by major contractors. Invoice finance frees up cash so construction firms can bid on new work, buy materials and hire employees.
Trucking and logistics
There are a number of costs transport firms must meet before a job can be completed. Drivers must be paid, vehicles have to be maintained and fuel has to be bought. Invoice finance helps to keep cash flowing so businesses can operate effectively and make future plans.
There are often significant delays between recruitment agencies paying temporary staff and payments from clients for those staff being received. Invoice finance ensures temporary workers can be paid on time.
Architects, engineers and legal firms often use invoice finance to save time that would otherwise be spent collecting payments. It also removes the need to chase late payments which can be damaging to client relationships.
Is invoice finance right for you?
If you run a small or medium-sized business that suffers from potentially damaging cash flow fluctuations then invoice finance could provide the stability you need. Once considered to be a finance option of last resort, now invoice finance lending to businesses has reached record levels. This has prompted many more finance providers to enter the market, leading to a much more competitive range of deals.
Tony Smith is a director at Business Expert
Sign up to our newsletter to get the latest from Business Advice.