Debtor financing - a great way to finance your SME in 2015
23 January 2015
Posted by: Author: Mazars
In current economic conditions, many small
and medium sized businesses (SMEs) are experiencing on-going cash flow
difficulties, largely due to slow payment of debtors. This lack of available cash can be a major
obstacle to growth. Without adequate
funding, it is more difficult to build a platform to competitively supply the
market and become a sustainable enterprise.
What can debtor financing do for you?
In short, you convert your sales invoices
to cash. Banks and certain finance
providers will advance a business a percentage of the value of its invoice upon
presentation of the invoice and proof of supply – this is usually 75 per cent
to 80 per cent of the invoice value, although some institutions may advance
more than this. If the business normally
collects its debtors in, say, sixty days, it now receives the specified
percentage on presentation of the invoice and proof of supply. Effectively, the business either solves, or substantially
improves, its liquidity position.
This increased flexibility means that the
entity can finance increased sales. In
addition it can drive down costs by taking advantage of settlement discounts
offered by suppliers.
In many instances, this gives the SME the
leverage to become a sustainable business.
does it work?
In practice there are several different
models for debtor financing. As costs vary depending on the model, seek advice
from your accountant.
The main procedures usually followed are:
- The financial institution will
do an audit of the debtors’ books, stock and internal controls,
- They will assess the
sustainability of the business,
- The institution will require
some form of security – usually a cession of debtors and sureties from the
- When the invoice is paid by the
customer, the amount originally advanced by the finance institution is refunded
to it. With factoring, the remaining retention percentage is then refunded to
you (in other words, the amount of the invoice less the 75 per cent or 80 per
of debtor financing
There are two models used, one is known as
invoice discounting and the other factoring.
With invoice discounting, you keep control
of your debtors and operationally there is little change to your business. Thus, you collect your debtors and, apart
from the cash inflow from invoice discounting, there is little change in your
In factoring, the full debtor's function is
now managed by the factoring institution you contract with. They will collect your debt and assist in
managing your credit policies.
Some businesses prefer invoice discounting
as there is no visible change to the business from the customers’ perspective
and thus they will not be aware the organisation has cash flow
difficulties. Also, many businesses
actively use their customers as a marketing tool and as a tool to grow their
business, for example, giving a discount to certain customers or allowing them
an extra 30 days to pay for a large order.
This will be more difficult to do if you use factoring.
Your choice also depends on your particular
circumstances - many businesses find that factoring suits them as they get a
professional debtor administration service with the ability to distance
themselves from any robust collection action required against slow-paying
are the costs?
With invoice discounting, there is a
monthly administration fee (usually around R10 000 per month – depending on the
institution of your choice) – this fee covers a monthly audit by the financial
institution of invoices, credit notes and monies paid by debtors.
With factoring there is a factoring fee per
invoice (generally between 0.5 per cent and 2.5 per cent but check before you
commit – depending on the institution of your choice).
In both cases, interest is charged on the
monies advanced by the institutions.
As a rule of thumb it is cheaper to use
factoring up to R500 000 monthly sales and thereafter invoice discounting gets
progressively cheaper, but there may be other factors at play so ask your
accountant for advice on your particular circumstances.
Bear in mind also that if you choose
factoring and then later decide to discontinue debtor financing, you lose the
factor’s assistance in collecting debts and so will face the practical
challenge, disruption and cost of having to take the full debtors’ function
back into your business.
The bottom line is that as these types of
facilities can be the boost your business needs to achieve sustainability, the
cost is not excessive.
This article originally appeared on brilliantcareersatmazars.co.za.