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How To Have Your Outstanding Customer Invoices Paid Earlier Without Losing Competitiveness By Tightening Your Customer’s Payment Terms

One of the key challenges faced by SMEs is having to offer lengthy payment terms to customers, of up to or beyond 90 days, in order position themselves competitively to win business, which can leave them at risk of having insufficient cash to meet payment obligations as they fall due. This leads many businesses to explore innovative financing solutions. Factoring, a form of asset-backed lending, emerges as a strategic tool to enhance liquidity, reduce receivable days, and boost financial resilience.



Understanding Factoring:

 

Factoring is a financial practice where a business sells its accounts receivable to a third-party financial institution, known as a factor, at a discounted rate. This provides immediate cash inflow, allowing SMEs to meet short-term financial obligations, invest in growth opportunities, and mitigate the impact of late payments.

 

Types of Factoring:

 

1. Recourse Factoring:

  • SMEs remain responsible for unpaid invoices if the customer defaults.

  • Lower fees, but higher risk for the business.  

2. Non-Recourse Factoring:

  • The factor assumes the risk of non-payment, providing greater security to the SME.

  • Higher fees due to the assumption of credit risk by the factor.

 

Factoring as a Subset of Trade Finance:

 

Factoring is a subset of trade finance, specifically falling under the broader category of supply chain finance. It plays a crucial role in facilitating smoother transactions along the supply chain by injecting liquidity into the system. By converting receivables into immediate cash, businesses can ensure a seamless flow of goods and services without disruptions caused by delayed payments.

 

Benefits of Factoring:

 

  1. Improved Cash Flow: Accelerated access to cash helps SMEs meet working capital needs and navigate unexpected financial challenges.

  2. Risk Mitigation: Non-recourse factoring shields businesses from the risks of customer default, providing financial security.

  3. Focus on Core Operations: Outsourcing receivables management allows SMEs to concentrate on core business activities, enhancing overall efficiency.

 

Costs of Factoring:

 

  1. Discount Fees: The factor charges a fee, typically a percentage of the invoice value, as compensation for advancing funds.

  2. Interest Charges: In some cases, interest may be applied on the advanced funds until the customer pays the invoice.

 

In conclusion, factoring emerges as a powerful financial instrument for SMEs seeking to expedite cash flow and strengthen their financial position. By understanding the benefits and costs associated with factoring, businesses can make informed decisions to optimize their receivables management and drive sustainable growth.

 

Q&A:

 

Q: What is Accounts Receivable (AR)?

A: Accounts Receivable refers to the money owed to a business by its customers for goods or services provided on credit. It represents a key component of a company's assets.

 

Q: What is Supply Chain Finance?

A: Supply Chain Finance involves optimizing the financial processes within a supply chain to improve efficiency, reduce costs, and enhance collaboration among trading partners.

 

Q: What is Trade Finance?

A: Trade Finance encompasses various financial products and services that facilitate international trade transactions. It includes instruments like letters of credit, documentary collections, and factoring.

 

Q: What is Working Capital?

A: Working Capital is the difference between a company's current assets and current liabilities. It reflects the operational liquidity available to meet short-term obligations and fund day-to-day business activities.

 

Enquiries

 

For further information, please contact info@langdoncap.com 

 

About the author

 

Sabbir Rahman is Managing Director of Langdon Capital. He has held prior roles with Morgan Stanley, Lazard and Barclays Investment Bank. He has executed over £60 billion in notional value of debt, equity, M&A and derivatives transactions with global corporates, private equity funds and financial sponsor groups.

 

About Langdon Capital

 

Langdon Capital assists SMEs and mid-market companies with capital raising, M&A and disposals up to £250m in transaction size; and innovative, high-growth companies with >£1m in annual revenue and >30% in annual revenue growth raise debt or equity, at Series A and later funding rounds, from a network of alternative investors spanning private equity firms, venture capital funds, corporate VC arms, family offices, venture debt funds, private credit funds, real estate funds and hedge funds.

 

 

 

This is not financial advice or any offer, invitation or inducement to sell or provide financial products or services or to engage in any form of investment activity.

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