Guide from
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            Factoring and invoice discounting
            Factoring and invoice discounting allow you to raise finance from your outstanding 
            invoices. Growing businesses, in particular, often find these options to be a more flexible 
            source of working capital than overdrafts or loans.
            This briefing outlines:
                 how factoring and invoice discounting work
                 whether factoring is suitable for your business
                 how to choose a factor.
            1 What are factoring and invoice discounting?
            Factoring and invoice discounting allow you to raise finance based on the value of your 
            outstanding invoices.
            1.1 With factoring, you ‘sell’ your accounts receivable to a factoring provider (a ‘factor’).
                  The factor will pay you to take on your outstanding invoices.
                  This means you can receive funds quickly for invoices not due for some time.
                  Typically, you receive 85% of the value of an invoice from the factor immediately.
                  The remaining 15% will follow once the invoice has been paid.
                  Most factors will charge you a fee plus interest.
                 Factoring agreements vary, but the factor will usually collect money owed by your 
                  customers themselves.
                  This means it is likely your customers will realise you are using a factoring service.
            1.2 With invoice discounting, you borrow against your accounts receivable.
                 Usually, the provider of your invoice discounting (the ‘invoice discounter’) will lend 
                  against unpaid invoices.
                  They will typically give you an agreed percentage of an invoice’s total value.
                  You pay back this loan as your customers pay their invoices.
            With invoice discounting, your business continues to collect payments from its customers. 
            This means it is easier to use invoice discounting without your customers knowing.
            This briefing focuses mainly on factoring. See 8 for more about invoice discounting.
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           2 Getting started
           By searching around, you can find a factor offering terms that suit your business. You will 
           probably have to go through these steps:
           2.1  The factor will audit your books to establish that your sales ledger meets its criteria.
                  Most companies that use factoring have a turnover of more than £200,000.
                   Some factors will consider start-ups and companies with a turnover of £50,000 or 
                   less.
                  Generally you should not have just a few customers and no one debtor should 
                   account for more than 25%-40% of your business.
                  Factors usually only provide finance to businesses with commercial customers 
                   (business-to-business).
                   Providers prefer companies that offer industry standard credit terms.
                  You should be collecting your debts within a reasonable timeframe – for instance, 
                   30 days.
                   Businesses paid in stages (such as builders), or whose bills are often questioned, 
                   may not be able to use factoring.
                  Lots of small invoices may make it uneconomical.
                  If your sales are declining then it might be hard to justify factoring.
           2.2  Where credit limits are required by the factor, you must agree how they will be 
                handled.
                  For non-recourse factoring (where the factor protects you against bad debts), the 
                   factor will usually set credit limits for each customer.
                   The factor will use its credit system to determine the creditworthiness of your 
                   customers.
                  Many factors offering recourse factoring (where you are not protected against bad 
                   debts) do not agree credit limits.
           2.3  The way you handle invoicing and payment with customers will depend on your 
                agreement with the factor.
                  Often, you invoice as normal and send a copy of the invoice to the factor.
                  Most factoring arrangements require you to factor all your sales.
           2.4  The factor will pay a set proportion of the invoice value within an agreed time.
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                    Typically, you will receive 80%-85% of the value within 24 hours.
            2.5  With factoring, the factor issues statements on your behalf and collects payments.
                    This includes contacting late payers by phone and chasing invoices (see 7.2).
                    You remain responsible for repaying the factor for bad debts, unless you have 
                     arranged a ‘non-recourse’ facility (see 3.5).
            You receive the balance of the invoice (less charges) once the factor receives payment.
            2.6  With invoice discounting, you collect payments from customers as normal.
                    As customers pay invoices, you pay this money to the invoice discounter.
                    This reduces what you owe, which may then allow you to borrow against more 
                     recent invoices.
            3 The advantages
            3.1   You maximise your cashflow.
             
                    Factoring enables you to raise money immediately – often up to 85% of invoice 
                     value. 
            An overdraft secured against invoices would probably raise up to only 50%.
            3.2   You negotiate a credit line that can grow with your sales.
                    Bank finance has to be renegotiated frequently.
            3.3   Using a factor can reduce the time and money you spend on debt collection.
                    The factor will usually run your sales ledger for you.
                     You retain your own sales ledger operations if you opt for invoice discounting 
                     (see 8).
            3.4 You can use the factor’s credit control system to assess the creditworthiness of 
                  customers.
                    This is useful if you do business with companies that do not have to file full returns
                     with Companies House. 
            3.5   You can purchase ‘non-recourse’ factoring to protect yourself against bad debts.
            3.6   Factoring can be an efficient way to minimise the cost and risk of doing business 
                  overseas (see 9).
            4 The costs
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           4.1  Finance charges should be comparable to an overdraft.
                  Typical charges range from 1.5%-3% over base rate, with interest calculated on a 
                   daily basis. 
           4.2 Credit management and administration charges depend on your turnover, the volume
                of your invoices and the number of customers that you have.
                  Typical fees range from 0.75%-2.5% of annual turnover.
                   A company with 50 live customers, 1,000 invoices per year and £1m turnover 
                   might pay 1%.
                For invoice discounting where only finance is provided, administration fees range 
                from 0.2%-0.5% of annual turnover. This is because you collect and manage 
                payments yourself.
           4.3 Credit protection charges (for non-recourse factoring) largely depend on the degree 
                of risk the factor associates with your business.
                Typical charges range from 0.5%-2% of annual turnover.
           5 The disadvantages
           Unless carefully implemented, factoring can negatively affect the way your business 
           operates.
           5.1 The factor usually takes over the maintenance of your sales ledger.
                  Customers may prefer to deal with you.
                   You can avoid problems by clearly agreeing things with the factor upfront. 
           5.2  Factoring may impose constraints on the way you do business.
                  For non-recourse factoring, most factors will want to pre-approve customers, 
                   which may cause delays.
                   The factor will apply credit limits to individual customers. These credit limits should
                   be reasonable and fair.
           5.3  You may only want the finance arrangements, but unless your operations are big 
                enough to justify invoice discounting, you may feel you are paying for collection 
                services you do not need.
           5.4  Ending a factoring arrangement can be difficult.
                  Your only exit route is to repurchase your sales ledger or to switch factors.
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