The principle of borrowing money secured on a business’ assets, particularly invoices, arrived in the UK nearly 50 years ago but has only really taken off in the last decade – in which time the market has swelled by 460%.
The number of businesses using such facilities jumped from 40,000 to 43,000 in 2005 alone, and in the same year £11bn of funds were advanced to companies.
Today, a growing number of banks and specialist lenders give you the option of borrowing money against outstanding invoices, your premises, equipment, machinery, fleet and even your brand.
Borrowing money against your sales ledger will be ideal for some of you, helping grow your business because the cash available increases with your customer list and charges are not payable on demand, unlike standard loans. But where do you start?
FACTORING
Probably not for you. Factoring is generally thought of as a development facility for small businesses with turnovers of less than £1m. Like invoice discounting (see right), it only works for b2b businesses that raise invoices, so retailers need not apply. Popular sectors for invoice finance include recruitment, manufacturing, wholesalers, courier companies, haulage, franchises and family businesses.
For an agreed administration charge and a small percentage of your invoice, a factoring company will take control of your debtor book and pay you for invoices up front and on the day that you raise them if need be. When your customer’s credit period is up – generally between 30 and 60 days later – the factor will call in the debt.
Factoring has the dual benefit of ploughing cash into your company while also acting as a credit and quality control service. Factors can root out late payers and act as a clear channel for customer complaints.
Steve Netherton, commercial director at Eurofactor, says a handful of owner-managed companies with turnovers of more than £10m use factoring because of these additional benefits, but they are the exception and not the rule.
INVOICE DISCOUNTING
Commonly perceived as a ‘grown-up’ version of factoring, invoice discounting gives you the same cashflow advantages but allows you to maintain control of your sales ledger, so the onus is on you to collect payments and forward them to the discounter.
If you are precious about your customer relationship then not allowing third parties access probably suits, although lenders are not debt collection agencies and it’s in their interests to keep your customers happy and not harass.
It is also cheaper than factoring because your financier does less work for you, so the admin fees are proportionally lower. On the flip side, because the discounter is kept at arm’s length, you’ll have to work harder to show them you’re a low-risk investment.
Because of its comparative value and light bureaucratic requirements, discounting has become a viable alternative for funding acquisitions, management buy-outs and buy-ins. In simple terms, you can use the assets of the business you hope to acquire to self-fund the deal.
Of course, the company must have a steady stream of sales, and you may need to arrange a complementary package of funding to support your invoice discounting facility, but at the very least it will reduce the burden of loan repayments and could delay the need for venture capital involvement.
“It’s a fantastic route for acquisitions and buy-outs,” says Netherton. “The last five years have seen a big increase in deals funded by discounting companies because it takes away the need for private funders who’ll demand 20% or 30% of your business and a place on your board.”
Like all your suppliers, financial or otherwise, a discounting company has a vested interest in your success and will want assurances that your infrastructure, client book and products work well. But that shouldn’t translate into a lot of work on your part.
In a nutshell, the effort involved sits between the light touch of an overdraft facility or loan and a due diligence-heavy relationship with a private equity investor.
“On an operational level, your business shouldn’t change too much when you sign up to invoice discounting,” says Diane Blinkhorn, a director at Bibby Financial Services. “We verify invoices each time they are raised and ask that communication channels are kept open, but there’s very little admin involved after the initial checks.”
ASSET BASED LENDING
Confusingly, the term ‘asset finance’ is used to describe myriad services. It’s sometimes an umbrella phrase for borrowing against any asset, including invoices, and sometimes excludes the debtor book.
It can refer to hire purchase agreements, whereby a financial company buys equipment on behalf of a customer then leases it to them over an agreed period of time, usually handing ownership to the customer at a pre-arranged date.
But for the purposes of this article, it means borrowing money secured on a business’ assets other than the sales ledger; in other words, your property, equipment, stock, vehicles and brand.
It’s a small point, but there’s plenty of financial jargon in this market and it’s worth making sure you and your financier understand each other. They are bound to throw in a few esoteric references without realising it, so be prepared to trouble them for an explanation when they do.
How much money you get will depend on the value of the asset you wish to use as collateral and the expected depreciation of its value as the loan is amortised – see what we mean about the jargon involved?
There are fewer players in this market than in factoring or discounting, and some companies will offer you asset finance only as part of a wider package, which may include a loan, overdraft, factoring or discounting.
Case study: Combining invoice and asset-based finance to grow
Company: Livingston
Owner: Alan Halsall
Livingston, a pan-European technology-leasing business headquartered in Scotland, used asset finance to fund growth following a management buy-out in March 2004. The investment bank that backed the MBO would not provide an additional €21m (£14m) required by Livingston to invest in new equipment, such as laptops and telecommunications testing machines, so Livingston’s fi nancial director, Tom Flynn, looked to refi nance the business.
“We presented to lenders such as GMAC, GE and Lombard, and were looking to secure a deal within six months,” Flynn remembers.
The process was complicated by Livingston’s international outlook, its high-tech, quick-burn stock and the company’s size, which positioned it between small- and big-business lenders.
After some toing and froing between prospective lenders, Hilton Baird, a broker, approached Livingston offering to source a financier.
“They put us in touch with Landsbanki, who were like a breath of fresh air,” says Flynn. “They understood our business immediately and asked a lot of very pertinent questions, which put us at ease.”
With a debtor book worth €14m and rental assets priced at €25m, Livingston opted for a combined invoice discounting and asset-backed borrowing facility. Landsbanki used specialists to value Livingston’s assets and post-deal regularly recalculates their worth.
Meanwhile, Livingston brought in the same trusted law fi rm that dealt with the MBO to oversee the drawing up of contracts.
“All in all, it was a positive experience. We provide detailed information on a regular basis, but you’d expect that from a complex arrangement,” says Flynn.
