Your guide to debtor finance [2021]

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Debtor Financing overview

What is debtor finance and how does it work?

Debtor finance bridges gaps in cash flow to keep things moving within your business and maintain relationships with both clients and suppliers. It’s especially useful for seasonal, B2B and manufacturing businesses who often find themselves caught between incoming and outgoing invoices.

Debtor finance is a little more expensive than regular term loans (due to higher interest rates) and therefore, is best used as a short-term cash flow solution. For example, if you find that a new client is often late to pay invoices and suppliers on the other end are waiting for your bill, this can put strain on working relationships you wish to maintain. Debtor finance can alleviate stress, ensure your supplier is paid on time and allow your clients more leniency.

Your lender will pay you up to 80% of the amount owing on your invoices, and you can use this to pay suppliers while you wait for clients to settle their bills. When they’ve paid you, you can then pay your lender back.

Debtor finance is an umbrella term for two subsets of borrowing: invoice discounting and invoice factoring. While both types of finance achieve the same thing, they differ in the level of control lenders have over your sales ledger. Let’s explore this further.

What is invoice discounting?

Invoice discounting allows your business to continue managing the collection of payments from your clients. Your lender therefore has to trust that you’ll be able to commit to your loan terms and make repayments on time.

Because of this, invoice discounting is usually offered to more established businesses with large turnover and trusted clients. Unlike invoice factoring, clients are unaware of the invoice discounting arrangement between you and your lender.

What is invoice factoring?

Rather than managing the debt collection process on your end, invoice factoring allows your lender to take care of unpaid invoices themselves. No need to chase up payments (and take further action if necessary), as your lender will do this on your behalf.

Invoice factoring takes pressure off your business, allows you to maintain client relationships and frees up time for you to focus on other areas of your business.

Clients are aware that an invoice factoring arrangement has been made, so you won’t be held accountable if something goes wrong between them and your lender.

Invoice factoring is more expensive than invoice discounting as it requires more work on your lender’s end.

Pros and cons of debtor finance

Pros: ✓ Greater flexibility ✓ Improve cash flow ✓ Solution can be tailored to your business ✓ Discount opportunities ✓ Improve business relationships ✓ No security needed ✓ Improve payment terms ✓ Tax deductions ✓ Maintain control over your business

Cons: X Higher interest rates X Long contract X Client perception X Can be difficult to qualify for X Potential loss of profit

Weighing up the pros and cons

Every debtor finance arrangement is different, as is every business. But these pros and cons should help you figure out whether debtor finance is the right product for you.

Benefits of debtor finance

Debtor finance solves mismatches in cash flow, giving business owners access to already earned cash. With it, you can pay important expenses without running into cash flow issues.

Debtor finance also allows relatively quick access to cash compared to other types of financing, and develops with your business. That’s because it’s secured to your accounts receivable ledger. So, your debtor finance facility will grow as your business grows its account customers.

For organisations with poor account receivable processes, invoice factoring could be an easy solution to outsource and improve the collections process.

✓ Get cash when you need it Debtor finance provides convenient and flexible access to cash when you need it. It’s ideal for fast-growing businesses who need to take seasonal fluctuations into account.

✓ Improve your cash flow With debtor finance, you no longer have to rely on clients to pay you on time. Instead, you can access cash when you need it, keep cash flow stable, and successfully manage fluctuations and business relationships.

✓ Tailored to fit your business, and change with it too
Unlike traditional business loans, debtor finance is scalable and adapts with your business over time. In other words, you’ll be able to access more cash as your business grows.

✓ Opportunity to negotiate With improved cash flow, there are opportunities to renegotiate repayment terms. If you have suppliers, this is a good chance to discuss early repayment discounts that could further reduce business costs.

✓ Security is not required With debtor finance, there’s no need to put down any property or assets as security for your loan. Instead, you offer your debtor ledger as security. This makes finance more accessible to younger businesses and those without security.

✓ Extend your payment terms Debtor finance makes it easier to offer improved repayment terms to clients. It takes the worry out of cash flow, so you can concentrate on offering the best service possible.

✓ Lower your tax payments Principal and interest payments on debtor finance are considered business expenses by the government. So, when tax time rolls around they can be deducted from your business’s income.

✓ Improve your customer relationships (invoice factoring) By removing yourself from the debt collection process and instead allowing your lender to manage that side of things, you can focus on building positive working relationships with your clients.

✓ You maintain customer ownership (invoice discounting) Invoice discounting allows you to manage the payment collection process yourself. This confidential agreement between you and your lender means your clients are not privy to the financing situation of your company.

Drawbacks of debtor finance

Debtor finance is a specialised solution for organisations selling products and services on payment terms. Those who do not rely on accounts receivable therefore won’t qualify for debtor financing.

Debtor financing also tends to be more expensive compared to other products, and harder to qualify for (lenders usually require a certain amount of revenue before considering approval).

It’s also worth noting that business owners who arrange invoice factoring will cede overall management of their accounts receivable ledger. This could be problematic if you don’t want your clients knowing about your debt collection process.

X Higher interest rates Your interest rate is determined by your cash flow, credit history, business credit rating, debt history and more. While interest rates vary depending on these factors, debtor finance tends to be a little more expensive than other loan products.

X Long contracts Depending on your lender and terms, you might have to negotiate the length of your contract so that it works for your business. A Valiant lending expert can help you find a suitable term and negotiate with lenders on your behalf.

X Can impact client perceptions (invoice factoring) If a lender is taking care of your debt collection process it could be a red flag to clients that you’re struggling financially. The communication and collection process should be handled well to avoid negatively impacting your brand.

X Can impact future loan eligibility Using invoices as collateral could potentially impact your ability to get approved for more conventional business loans in the future.

X Debtor finance costs you money While you might save time and money by getting funds sooner, ultimately you are paying for this service which results in loss of profit to a degree.

Are you eligible for debtor financing?

Eligibility varies between lenders, but there are some commonalities. Our lending experts work with over 80 lenders, so we can help you find a solution tailored to your business. To give you an idea, most lenders will require the following:

  • You must be an Australian business with an annual turnover of 200K+
  • Your business must have been trading for at least one year
  • Your business must be profitable and creditworthy

Reasons debtor finance applications are declined

If you do not meet a lender’s criteria, your application may be declined. To avoid this, consider whether any of the following applies to you:

  • Poor credit score
  • Outstanding debt
  • Short trading time
  • Weakening industry
  • Inadequate cash flow
  • Limited security (i.e. collateral)

In addition, we recommend speaking with a lending expert to see which lender will work best for your specific business situation.

Applying for debtor finance

Applying for debtor finance is similar to applying for other loans in that you will have to provide business bank/financial statements. A large accounts receivable volume will be a determining factor here for any lender considering offering debtor finance.

You can start the application process online now via our online loan finder which will help you find the right debtor finance facility for your business. Alternatively, you can give our lending experts a free, no-obligation call on 1300 780 568 to chat about your business needs. Here’s how our process works:

  1. Provide some info: Tell us a bit about your business and your debtor finance needs.

  2. Compare lenders: View loans and lenders you pre-qualify for and compare your options.

  3. Apply today: Complete your application online or over the phone with one of our lending experts.

How to use debtor finance

If your organisation has a large accounts receivable ledger and as such, potentially falls into a temporary period of low cash on hand, debtor finance could be your solution.

Due to the relatively high annualised rate of debtor finance, it’s usually recommended as a short term cash flow solution, viewing longer-term finance solutions for other projects.

Debtor finance is often most useful in the early lifespan of a business when income stability is most critical. This is why debtor finance is so often used to meet day-to-day demands by bringing your cashflow forward. Here are a few ways you can use debtor finance to benefit your business:

  • Manage ongoing costs
  • Create or support growth opportunities
  • Manage seasonal fluctuations
  • Get funding when banks can’t help

Frequently asked questions

Why would I use debtor financing? Businesses choose to use debtor financing so that they can access the cash that is owed to them immediately, rather than waiting for their clients to pay them.

Is debtor finance right for me? Debtor finance is used by a range of businesses who may have a long lead time between invoicing and payment. These often include manufacturers, construction businesses, service industries, wholesalers, and growing businesses.

Do I qualify for debtor financing? Lenders want to provide debtor finance to businesses who sell goods or services to other creditworthy businesses. They may also take into account your credit score, the age of your business, your cash flow and more. To find out which facilities you qualify for, try our free loan finder. Answer a few questions about your business and discover which lenders could work best for you.

Do I need to provide security? Usually not. Most lenders will provide the facility against the assets of your business, rather than a property. But this ultimately depends on the lender and your individual circumstances.

How do I apply? It’s simple to start the application process via our free loan finder. Alternatively, you can give us a call to chat about your needs. From there we can help you find the right lender, loan and rate and walk you through the application.

Can my startup get a debtor facility? Debtor finance is ideal for startups as it evens out cashflow helping them to grow. To find out if your business is eligible give us a call on 1300 780 568 to chat about your specific situation.

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