Unlocking those balance sheet a$$et$.
I came across a headline via a LinkedIn contact the other day that stated that Hewlett-Packard, that enduring US-based corporate and Fortune 500 company, is factoring its receivables, reportedly to the tune of $4.9 billion in 2013 *.
If this doesn't reinforce the view that factoring is a well-accepted option for short-term business financing, I don't know what does. And I'm sure any of the debtor finance or invoice finance service providers in New Zealand can provide many more, just as convincing, local case studies.
The simple fact of the matter is that "invoice lending facilities", in all their variants, are becoming a more considered, and indeed more common, funding option for businesses of all sizes--a cost effective and flexible way to fund your business.
Attitudes are changing. Attitudes towards the factoring industry have improved significantly. Craig Brown, general manager lending, at Lock Finance puts this change of mindset down to two main points: having a major bank providing a debtor finance facility and being part of the New Zealand market; and accounting professionals being better educated on factoring.
Business owners understand that factoring is becoming a main working capital financing tool, he explains, and their accountants understand it better and are more accepting of the improved pricing that some providers now offer.
"Therefore business owners are more prepared to look at it."
For those business owners who have yet to seriously consider factoring or invoice lending there can still be a little confusion surrounding exactly what it is--and how it works.
Craig Brown explains that much of the confusion is due to the different provider companies and the terminology they use. He divides the market into three main forms of facility:
* A confidential invoice financing facility (commonly known as debtor finance/invoice finance);
* A disclosed invoice finance facility (commonly known as Full Service Factoring); and
* Single Invoice Financing (as it states, generally a single invoice or debtor only).
The main point of difference is usually the fact that a facility is notified to a client's debtors or not and the addition of a collection activity.
To further dispel any confusion, NZBusiness also consulted a non-provider --in this case Margaret Holmes of Engine Room Chartered Accountants. Holmes sums up what she regards as the four main options for financing growth.
Confidential debtor financing is where one or more invoices are sold to the financing company at a discount often to 20 percent, and the business collects the debt, repaying the financier plus the fee.
Disclosed debtor financing is when the financier undertakes the collection process and releases the balance of the funds on collection, less the finance charges.
Bank invoice financing means the bank effectively provides an overdraft of up to 80 percent of the value of the debtor ledger.
The fourth option is where the customer is provided with extended payment terms through an external funder at the customer's cost. The business owner gets paid on raising the invoice and the customer pays it over six to 12 months, including any interest charges.
"The major considerations are the costs of finance and whether your customers are regular payers," explains Holmes. "A finance cost of four percent for 30 days funding is substantial. "Furthermore all private financiers insist on recourse; if your customer doesn't pay on time the invoice will be sold back to you. Ultimate responsibility for debt collection always remains with the business owner."
Holmes says bank funding still remains the cheapest option for business owners. "But for short-term requirements the option to finance a single or small number of invoices can appeal, particularly as it is quick to action."
The confidentiality cause
The major bank referred to earlier is, of course, the BNZ, which was the first and only bank to offer invoice finance until Heartland Bank began offering a facility more recently.
Andrew McKerrow, senior product manager-cashflow solutions for BNZ Product and Customer Solutions, says his bank offers invoice finance because it's confidential.
"Your customers won't know the bank is funding your invoices and we don't get involved in regular collection of payments which is what factoring companies do," he explains. "This leaves you retaining complete control of your customer relationships from sale to payment.
"It brings the cash forward as you get online real time access to money from your approved invoices meaning you don't have to wait to be paid--letting you get on with growing your business."
McKerrow says the bank strives to enhance its offering through its own designed and built online system. "Access to funds from approved invoices straight away, not overnight, sees customers use that money to pay wages and bills today, making it popular with labour hire, recruitment, manufacturing, wholesale and service industry companies," he says. "It's helped many customers grow their business to be successful and shown them how to be good with money."
McKerrow agrees that acceptance of invoice finance is increasing. "Savvy professionals, business owners, boards and CFOs know they need to make the balance sheet assets work harder for the business. Leveraging your debtor assets at competitive rates can turn a lazy balance sheet into a working capital cash cow with the capability to meet the business's trade cycle more effectively; freeing up liquidity to make it grow faster with the potential to turn more profit."
The benefits of debtor finance
Wayne Goss, head of business development at Scottish Pacific Debtor Finance (Scotpac) says a debtor finance arrangement gives business owners a capital injection into their business, typically equivalent to 80 percent of their accounts receivable ledger and effectively turning credit sales into cash.
"Businesses will see flexible facilities directly linked to turnover that grows with their business and continues to assist with further growth--flexible funding lines," he adds.
The most common question business owners have is around cost, he says, because debtor finance is seen as expensive. "Some factoring facilities come with a full collections service which can save a business in staff costs. Other facilities are undisclosed and are costed out at bank-comparable interest rates."
Credit security is another common question, he says, with business owners looking to establish a reliable funding option. "Scottish Pacific is funded by ANZ, [therefore] providing a secure line of credit."
The BNZ's Andrew McKerrow says lenders must understand the inner workings of your business.
"That will ensure your funding matches your trade cycle so they structure the right facilities to meet your day to day working capital and longer term debt funding needs.
"Invoice finance is the ideal working capital tool for a growing business as the quick access to cashflow 'now' and the security offered (unpaid invoices) match every sale you make."
He says BNZ can offer Trade and Inventory financing to cover a firm's full trade cycle and Asset Finance and Term Debt options for capital items.
On the subject of financing options--most factoring lenders offer a range of complementary funding services to meet specific needs. Lock Finance, for example, also provides funding at an earlier stage in the working capital cycle. It offers Purchase Order Financing which assists businesses that cannot fund firm orders that they receive. Debtor Finance or Factoring is the financing of invoices for goods or services that have been delivered (so a business needs to be able to fund the import or have open account terms with their suppliers --generally offshore suppliers--to be able to get access to and deliver the goods). Purchase order funding kicks in earlier to assist paying the supplier directly, therefore allowing the goods to be shipped.
Another invoice finance provider, Bibby Financial Services, provides a full suite of solutions which national sales manager John Blackmore says is aimed at an array of situations including, but not limited to, start-up businesses; young businesses experiencing growth with limited track record and/or supporting personal security; restructures as a result of declining sales and/or financial performance; medium sized businesses looking to release personal security from finance arrangements; acquisitions and so on. "Bibby also actively promotes the financing of export receivables and can offer 'bad debt protection' against both domestic and export client failures," he says.
"Bibby will look to assist where a firm has business to business (B2B) sales principally selling on credit terms. That's what we do, shorten the operating cycle of a business.
"We understand that a lot of businesses will come to us with cash pressures from key creditors or the tax office, but our solutions will resolve a number of those situations."
You may be asking what criteria a business must satisfy in order to qualify for invoice finance services. Not surprisingly, different providers have their own requirements and standards.
John Blackmore says Bibbys look for B2B sales, credit terms on offer to clients (normally 20th month following or similar), and sales or projected sales of around $500k per annum.
"We also seek larger businesses with annual turnover up to $50 million. Why would a larger business come to Bibby? Because we are specialists in what we do. Bibby expects to lend more than you could get from a bank, with likely more favourable lending terms including supporting security, guarantees and covenants."
Over at Scottish Pacific,
Wayne Goss confirms that debtor finance facilities are well suited to businesses selling products or services B2B with standard terms of trade.
"Scottish Pacific is able to fund businesses with any turnover and will look at start-ups.
"Where banks provide a fixed facility locked in by real estate security, debtor finance provides a revolving facility increasing as your business grows without requiring real estate security."
Asked to provide a typical case study for debtor finance, Goss cites the wholesaler that was experiencing significant growth and required a capital injection to ensure the business had sufficient working capital. "Large orders from suppliers became a regular occurrence, requiring cash up front and putting a substantial strain on cashflow," says Goss. "A debtor finance facility was established providing the needed capital boost to sustain the growth without taking real estate security--a major attraction for the client."
Andrew McKerrow at the BNZ says an initial discussion around the business's needs, a simple application form and some financial information is all that's required in order to get the ball rolling with the bank. "We seek to help businesses with over $1 million in turnover that are profitable, have automated systems, good invoicing processes and can provide proof of debt of their goods or services provided.
"Assuming they have these, along with meeting our standard business lending criteria, we can turn approvals around quickly."
While it's true that New Zealand has lagged behind other countries, such as the US and Australia, when it comes to the uptake of debt factoring-type solutions, there can be no doubt that this country has recently been gaining ground. Much of that progress can be put down to innovative products that the local providers have been introducing to the market.
Bibby Financial Services, for example, offers a number of web-based solutions. "This also extends to our client's debtors who can opt to have monthly statements emailed and can search on the web for missing invoices," says John Blackmore.
"This past year we have also launched a smartphone app that allows business owners to manage their facility from wherever they are, and draw funds all through their phone.
"Bibby will continue to launch new web products that will add value to our existing and new clients. We believe these additional services will help our clients on a day-to-day basis and will help see Bibby establish itself in the New Zealand marketplace as the leading non-bank provider of invoice finance-based solutions."
However, Blackmore also believes there still needs to be more market awareness of factoring and invoice finance solutions. "Often businesses come to us for cashflow support in their hour of need, whereas if these businesses had been directed to Bibby in the first place by business advisors when completing an overview of the business's needs, perhaps the solution would be seen as something other than 'last resort'.
He says Bibby now targets business advisors with its marketing. "Bibby seriously wants to grow its offering as a specialist solution at a time when a business can see cashflow is going to be tight. "By all means offer the banks the first look but don't leave it too late to approach the specialists. Cashflow is king, not only to keep the wolves from the door but to seriously help a business grow and meet its commitments as they fall due."
The BNZ plans to continue innovating in this space too. Andrew McKerrow predicts there will be continued wide acceptance of invoice finance in the SME sector as "the way" to fund the cashflow of a growing business, rather than traditional overdrafts against property.
"Many lenders will enter the market challenging the current providers in their offerings around flexibility of what types of invoicing are accepted; interest rate price points for different levels; and capability of multiple currency discounting through online systems."
The final word on market developments we'll leave to Lock Finance's Craig Brown. He's predicting a closer, seamless integration of the financier with a client's working capital and its suppliers and debtors.
In keeping with overseas trends, he also sees more mainstream lenders providing these types of funding facilities; plus certain industries providing specialised working capital facilities that specifically suit their particular requirements. Perhaps a financing auction site.
Meanwhile, for business owners struggling to unlock the cash, and therefore hidden potential lying within their debtors list, there is no shortage of providers ready and willing to step forward and help.
INVOICE FINANCE BALANCES TRADE CYCLE
A labour hire company was growing rapidly, thanks to the acquisition of a number of new large customers they were contracted to supply labour to. The hire company was getting paid on 20th of the month terms, yet they paid their labourer workforce fortnightly.
Their trade cycle was out of kilter, as the outflow of money was every 14 days and the inflow averaged 42 days. They couldn't get funds in quick enough to keep within their overdraft limit and meet an expanding wage bill; therefore they were being forced to stretch the creditors out to ensure their workers were paid.
Invoice finance from the BNZ, however, provided cashflow of up to 80 percent of the approved invoiced labour every fortnight against the pay sheets signed by the companies the labour was hired to. They could now pay their workers and it meant that the invoice finance facility therefore grew with the business in line with its cashflow requirements. It also increased the bank's security held to match, from the unpaid invoices.
This company continues to grow, to be profitable and build equity in the business.
You're not a bank!
What to do before seeking external finance
One of the biggest and most common problems for small businesses is funding growth.
"As businesses grow it is very easy for the business owner to get caught up with growing sales and take their eye off the ball when it comes to managing cashflow," explains Margaret Holmes of Engine Room Chartered Accountants. "As they grow both income and expenses increase; for service businesses the biggest increase can be in wages, often paid before a job is completed, and well before the money is collected
"As business can only grow as quickly as its cash reserves will allow," adds Holmes, "This is the reason Xero is engaged in regular capital raising!"
Business owners need to remember they aren't a bank, she says. "There are several options for business owners before considering external finance source."
* Credit check the customer before you do business with them--make sure they have a reputation for paying on time before they become a customer.
* Change the payment terms--20th of the month following is a New Zealand phenomenon arising from the farming industry where traditionally they've always been paid in arrears. Seven day terms are considered normal overseas.
* If the price is agreed before the job is started the business owner can request a deposit before the job is started or progress payments.
* Make sure invoices are paid on time and take prompt action against anyone who doesn't pay.
Strong rebound for debtor finance
While the global financial crisis (GFC) put a dampener on debtor finance uptake by businesses, it seems that those days are well and truly behind us and overall factoring turnover is again on the rise. The latest quarterly figures put out by the Debtor and Invoice Finance Association of Australia and New Zealand (DIFA) show that debtor finance turnover totalled 15.0 billion in the March 2014 quarter, representing a 3.1 percent increase on the corresponding quarter last year *.
In the 12-months to the end of March 2014, debtor finance (Factoring and Discounting) provided to Australian businesses totalled $63.7 billion.
Following a decline in total debtor finance turnover brought about by the GFC, the industry has continued its growth since a turnaround in 2010. These latest figures mark the fourth consecutive year the industry has witnessed growth in the 12 months to the end of March, despite the departure of two major [Australian] providers during that time.
Over the four-year period, factoring turnover has witnessed a significant increase of more than 60 percent (from $798.8 million in March 2010 to $1,284 billion in March 2014), and this has been fuelled by the rise of the non-bank financiers.
DIFA chairman, Lee Clarke, said the continuing growth of factoring turnover highlights the extent to which SMEs are becoming aware of how they can leverage their unpaid invoices to provide working capital for their business.
"While debtor finance is at times viewed as a tool to merely overcome short-term cashflow constraints, a growing number of businesses are engaging it more strategically to grow their business.
"The enhanced cash position of a company can be used to employ more staff, for capital expenditure, or to take advantage of acquisition opportunities.
"Whether through a discounting or factoring arrangement, debtor finance is ideal for many SMEs because it is a very flexible form of finance, and it easily responds to the fluctuations of a company's business activity.
"Perhaps the most appealing feature of debtor finance is that it doesn't generally require a business owner to commit their personal assets as security."
While debtor finance affords many advantages, according to DIFA research, businesses recognise the three key benefits of debtor finance to be:
** Freeing of cash within 48 hours (usually varying between 75-90 percent of the value of an invoice), allowing the business to accelerate growth;
** The ability to utilise the improved cashflow position to obtain early settlement discounts from suppliers/creditors (up to five percent);
** A reduction in management time spent on chasing slow payers (through a factoring arrangement), allowing managers of the business to concentrate on areas more appropriate to their responsibilities, such as driving new business.
* DIFA has both New Zealand and Australian members but the figures are not separated due to the small number of New Zealand banks and finance companies that report to the organisation.
* http;//rodmatheson.ca/hewlett-packard factoring-receivables
Glenn Baker is editor of NZBusiness.
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|Title Annotation:||Debtor/Invoice Finance|
|Date:||Jul 1, 2014|
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