On the surface this is a simple question and this is the simple answer:
There are normally two charges to any invoice factoring facility.
- A service fee which is charged as a percentage of the business’s sales turnover.
- An interest charge based on the funds advanced.
A business with a sales turnover of £1,000,000 that borrows on average £100,000 over a year. The service charge is 1.0% and the interest is 3.0%. The charges for the years are:
£1,000,000 x 1.0% = £10,000
£100,000 x 3.0% = £3,000
Total Annual Charge = £13,000
For this, the business has reliable funding and full credit control including credit checking. It really is value for money.
Poor service costs money:
However not all Invoice Factoring facilities are the same. You could go to a big bank and get what appears to be a very competitive facility but they may not provide the same level of service as an efficient independent. Staff may be managing a lot more accounts and credit control will be done by computer generated letters and statements rather than by telephone.
Let’s say a business is paid on average in 45 days. It may be that with sloppy collections the payment days slips to 55 days but with efficient credit control it improves to 35 days.
The difference in the 20 day collection period will cost the company over £1,600 in additional interest costs. Plus the chances of bad debts are substantially increase with poor credit control.
Some Invoice Factoring companies may look very competitive on paper but will charge additional fees in managing the facility. The headline figures may look good but the additional charges actually means that a business is paying more than a facility with a higher headline service fee.
How to look for value for money:
Firstly ask the Invoice Factoring Company how they manage their credit control. Is it managed by a department (in the UK) or by an individual credit controller (that you can speak to)?
It may be worth asking for references from existing clients.
Secondly make sure you get details of additional charges and how and when they are charged. You could even ask that no additional charges are applied at all.
If you can, go and see the Invoice Finance company, ask to meet your client manager and credit controller. It's the best way to get a feel for who you will be dealing with. Invoice Factoring is a great tool for young and growing businesses, but a little bit of research can pay dividends in the long run.
You may also find our blog about How Invoice Factoring Saves you Money a useful read.