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In the world of business, there are several important aspects that determine the quality of services and transactions taking place. Invoice financing also known as receivable financing is a short-term borrowing extended by a lender to a business based on unpaid invoices. To elaborate this more concisely; most companies sell their services/ goods to customers such as retailers and wholesalers on credit.
This means that the customers don’t pay immediately, however, they’re given invoices after an agreement is reached on the bills due date and the total amount due. This kind of arrangement can handicap the operation of the company and they can resort to borrowing money from a lender against the invoices. This is what is also termed as “financing the invoice.”
Structures of invoice financing
There are two ways in which a company can finance their invoices; invoice factoring and invoice discounting.
Invoice factoring is where a company sells the outstanding invoices to a lender who in turn pays the company 70-85 per cent up-front of the invoice’s ultimate worth. Here, the lender collects payments from the customers. Once the lender receives full payment; it then remits the remaining 15-30 per cent of the amounts to the company less interest and/or fee for the service.
Invoice discounting, is almost similar to invoice factoring, however; the company collects payments from the customers such that customers aren’t aware of the arrangement. Here, the lender gives the company an advance of up to 95% of the invoice amount. Once the customers pay their invoices, the company repays the lender, less interest or fee.
Importance of invoice financing
- It’s a reliable and fast way of sourcing funds for your company without having to impress the banks with credit scores.
- It’s a decent option to meet short term liquidity and demands of your products and services without fixed lines of credit.
- The cost of invoice financing is low compared to other funding options such as banks and merchant cash advance, etc.
- It gives you and your business some peace of mind. Since the heavy lifting of chasing payments has been transferred to a third party; you can focus more on growing your brand, attracting more customers and boosting sales.