The fiction of whole book factoring

Invoice financing is a largely unregulated industry, meaning that invoice financiers can write their own rules on if and how they fund clients and the prices they charge. With many different lenders in the market, it is difficult to find the right lender for your business. What makes it even harder is that each lender will write a unique contract with each of their clients, tailored to suite the lender to their best advantage. So when you see or hear of an advertised “discount” or “service” fee of 1%, what does it really mean and what is the real cost to your business for those funds?

The answer is – it depends.

It depends on your financier and your business. Let’s look at some examples using a “whole turnover” facility (all invoices are required to be financed) and assuming static cash flows and funding (for ease of calculations).

With a whole turnover facility you are locked in to at least a 15 month contract and you are required to sell all of your invoices to the financier. A fee is charged on all of your invoices, whether the financier decides to fund them or not. With a whole turnover facility, the client pays for the facility before any funding decision is made. Depending on the financier and the client, the financier can fund anything from 0% to typically 80% of an invoice – that’s right – they can fund 0% at their discretion. A key element in determining the real cost of finance is the level of “disapproved” invoices – invoices that are charged the fees, but for which the client receives no funding. In the whole turnover industry, despite advertising advance rates of 80% (i.e. 80% of every invoice value is funded), the industry averages just 63% advance rate. So, what does that mean for a client?

Examples of two different clients follows:

An “A” rated client might look something like this:

  • $12M annual turnover
  • Debt turn of 30 days
  • Confidential Invoice Discounting
  • 5% of debt disapproved
  • No disputes
  • Top 10 debtors are 75% of ledger and all “A” rated debtors
    • Pricing = 0.5% fee
    • 7.5% p.a. interest on funds drawn
    • Audit, admin and establishment fees of $8,000

Calculations are:

  • Annual turnover = $12M
  • Hence monthly turnover = $1M
  • Less 5% disapprovals = $950,000
  • Average monthly funding at 80% advance rate = $760,000 (hence effective advance rate is 76%)

Fees charged are:

  • Service fee of 0.5% on annual turnover = $60,000
  • Interest charges on drawn funds = $57,000
  • Audit, admin and establishment fees = $8,000
  • Total fees = $125,000

So, the overall annual cost of funding is (125/760)*100 = 16.4%

Meanwhile, a “B” or lower rated client would look more like this:

  • $12M annual turnover
  • Debt turn of 30 days
  • Full factoring
  • 25% of debt disapproved
  • Regular disputes
  • Top 10 debtors are 5% of ledger and “A” rated debtors
    • Pricing = 2% fee
    • 10.5% p.a. interest on funds drawn
    • Audit, admin and establishment fees of $12,000

Calculations are:

  • Annual turnover = $12M
  • Hence monthly turnover = $1M
  • Less 25% disapprovals = $750,000
  • Average monthly funding at 80% advance rate = $600,000 (hence effective advance rate is 60%)

Fees charged are:

  • Service fee of 2% on annual turnover = $240,000
  • Interest charges on drawn funds = $63,000
  • Audit, admin and establishment fees = $12,000
  • Total fees = $315,000

So, the overall annual cost of funding is (315/600)*100 = 52.5%

It is important to note that many full book financiers will impose maximum overall limits on their client’s facilities, plus individual limits on certain debtors (or a debtor concentration limit). So if a client’s business grows beyond the limits imposed, the client will still need to pay for the facility across their whole book, but receive no additional funding in return. Obviously, this is counter-productive to the original purpose of the facility – to grow the client’s business.

Following from above, it is also important to underdtand that the funding provided each month does not add to the next month’s funding amount. Assuming a monthly payment cycle and using the second example, the client’s original $600,000 in funding for the previous month will need to be paid back prior to the next set of funding (up to $600,000), or only whatever portion of the funds paid will then become available. So, in effect, the client is receiving a facility akin to an overdraft secured by their invoices, not a true invoice factoring facility that grows with their business.

You can see from these examples that for many invoice financiers, the hidden fees (admin, establishment, interest) and the disapprovals add significantly to the cost of finance for their clients, and contracts can be very complex to understand and calculate the real cost of the facility on offer. It is no surprise then that many businesses find themselves unhappy with their financier after it’s too late – they have signed a contract and will pay the fees the financier expects.

But there is also good news! There are some financiers who will fund on a single invoice basis, like Capitalise Business Finance. We do not lock any client into a contract, we fund single, multiple or partial invoices, we are transparent and have only one fee (no hidden fees), and most importantly our fee is charged after funding occurs, not before, meaning that our clients maintain complete control over their funding needs and costs. Best of all, our clients are dealing directly with their financier, not a relationship manager or sales rep – we fund our own clients directly. This means that we maintain good, quality relationships with our clients and their debtors.

So, if you do not need all of your invoices financed, if you do not need a facility for over a year, or if you want to deal directly with your financier (not a computer, receptionist or call centre), then Capitalise Business Finance is your answer.

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