Asset-based finance
Article Date: Aug 23 2006
Commercial finance is divided up into three options: factoring, invoice discounting and asset finance. All three can be used to fund growth by advancing money against forthcoming revenues or assets. Due to their nature, they are only open to those trading on a business-to-business basis. According to the FDA (Factors and Discounters Association), the number of companies using invoice finance has grown from 13,000 ten years ago to 43,000 today.
‘Our figures show that the use of invoice finance peaks when businesses are starting up and then again when the company's turnover passes the £1 million milestone,’ says Kate Sharp, chief executive of the FDA.
‘Increasingly, we are also seeing large corporate organisations turning to invoice finance, particularly confidential invoice discounting, which allows them to retain control of their sales ledger.’
Though there are no independent statistics as confirmation, she says anecdotal evidence indicates, ‘there has been an increase in M&A activity being part-funded by invoice finance, as companies use packaged deals to raise greater amounts of finance.’
A victim of its own success
After using factoring from Lloyds TSB to fund growth for the best part of a decade, electronic switches company Danlers is phasing it out over the next year having just reached turnover of £2.7 million at the end of March.
‘Ironically, we’re just about to give up factoring because it’s been so successful!’ explains managing director Tony Kay.
‘It has enabled us to grow 30 per cent a year for the last seven years and we’re now at the stage where we are happy to fund growth from our own profits from here on in.
‘We talked about moving onto invoice discounting but in the end decided it wasn’t necessary. Our factoring company has done such a good job we don’t need them anymore.’
Swimming upstream
When first starting, salmon farm business Loch Duart struggled to find bank funding and so turned to factoring with HSBC.
‘At first, with limited resources, not having to chase the money ourselves was a real help,’ recalls director Alan Balfour. ‘It was great to get the money in advance of getting invoices paid.’
Factoring funded the Scottish business’ growth until a year ago, when Balfour decided to switch to invoice discounting.
‘I think if you can manage your own sales ledger, it’s worth doing it yourself. One downside of factoring is that the people chasing your invoices don’t know the customers like you do and are different from those who advance us the money, so there is a couple of degrees of separation between you and your customers. Chasing our own invoices is easier as personal relationships can make a difference to collection rates.
‘I would consider going back to factoring if we grew rapidly and were short of resources again, but for now we have the capacity to stick with invoice discounting,’ he adds. ‘It’s not that different as far as we’re concerned, now we just have to send out statements ourselves. If you are happy to collect your own debt it will suit you.’
Balfour also hails the convenience of the system, whereby he sends invoice details electronically to the factor, rather than physically sending each one as used to be the case in the early days. The factor sends in an auditor every six months to check the sales ledger.
Use your assets
Many factors also offer finance secured on tangible assets, principally stock but also plant and machinery, and even property. This facility is often offered as an extension of an invoice financing arrangement, but in some cases it can also be used on its own for businesses with no invoices, such as retail companies.
‘The financer will look at which assets can be most easily liquidated when it comes to security,’ explains the FDA’s Kate Sharp. ‘Top of that list is obviously the sales ledger, but next comes stock that is ready to sell, plant and machinery and then property.’
Similarly to invoice finance, the amount of funding varies over time as the financer continually values the assets its money is secured against. Varying stock levels will affect the level of funding, as will depreciation of plant and machinery over time. However, on the plus side, funding measured against property can rise with the value of the property.
‘When looking for funding, always look for the most appropriate form,’ concludes Sharp. ‘Factoring isn’t for everyone, but if funding cash flow is your requirement, a form of asset-backed finance is the best option.’
Further information
The FDA is the UK trade association representing providers of factoring, invoice discounting and asset-based lending services. Its members provide financing to roughly 43,000 businesses and transact over £148 billion of clients' invoices each year. A complete list of members and affiliates can be found at the website www.thefda.org.uk
