SMEs contribute an estimated 40% to the Malaysian GDP. Despite this achievement, many Malaysian SMEs are struggling with cash flow issues and are now looking into a different kind of credit facility, invoice financing. Let’s shed some light on the cash flow tool in this ultimate guide to invoice financing.
Before we get into the ‘what’, let’s talk about Invoice Finance as a whole for a minute.
Types of Invoice Finance
Invoice Finance can be a bit of a confusing topic, often broken into three categories of Invoice Financing, Invoice Factoring and Invoice Discounting. Here in Malaysia, the vast majority of SMEs understand Invoice Financing, often confusing it for Invoice Factoring. Then we have the third member of the family, Invoice Discounting
Invoice Financing is an invoice finance facility offered by financiers which allows you to use your invoices as a financial proof that you can pay a lender back on an advance. You can usually get up to 80% of your invoice upfront from the financier and once your client pays the invoice, you’ll pay the financier back with interest and fees. This prevents you from having to wait to get your money, which is important to manage your cash flow.
Invoice Factoring is a similar invoice finance facility in the sense that you’ll still receive up to 80% of the invoice amount upfront from your financier. In contrast, however, with invoice factoring, you are essentially selling your invoice to the financier. The financier will collect the full amount of the invoice from the customer on your behalf.
In this article, we’ll primarily address what Invoice Financing is, as it is the most accessible credit facility for Malaysian SMEs.
What is Invoice Financing
Invoice financing refers to asset-based lending that allows small businesses to finance slow-paying invoices or accounts-receivables. It undertakes a broad concept of a financing arrangement that allows companies to finance early payments on their sales invoices or sales purchases, for goods delivered and/or services completed. This method of financing is ideal for businesses in need of consistent cash flow or cash up front, especially if the majority of their transactions are on credit terms.
In a nutshell, when small businesses cannot wait for their client invoices to be paid, they turn to invoice financing to fill the gap. It keeps the business cash flow moving while waiting for the payment from their clients and debtors.
Who is Invoice Financing meant for?
Invoice financing is an account receivable financing method for businesses that need consistent cash flow to function, whether you are a small business or a large corporation.
In using this financing tool, the business now has more time and resources to concentrate on their business growth and expansion. It provides the working capital required and helps the business function efficiently.
How to qualify for Invoice Financing?
Generally, meeting the qualifications for Invoice Financing is easier than meeting the requirements for a business loan application with any financier today. The general rule of thumb that you can follow is that the business must at least have been in operation for 2 years, the invoice amount payable has a time frame of at least 90-days, and the business has no serious tax or legal problems to note.
Steps to Invoice Financing
1. Invoice your client:
When you provide a service or supply to your client, issue them an invoice for the price of the goods or the labour charges for the service. To qualify for accounts receivable financing these invoices need to be payable within a 90-day time frame.
2. Assign the invoice to the financier
Find a licensed financier that you want to work with. The financier will ascertain your eligibility and conduct due diligence on you and the debtors you are invoicing, to determine if they are good credit risks.
The financier will then stipulate or offer the financing amount they are willing to guarantee you based on the risk assessment of your invoiced debtor, and their payment behaviour. If you are happy with the arrangement and wish to continue this relationship with the financier, then you may assign other outstanding invoices to the same financier.
3. Receive an advance on the Invoice assigned.
Depending on the offered terms, the financier may finance up to 80% of the invoice value. This advance may be calculated based on the size of your transaction, your industry and other risk parameters.
You may have to send out a ‘notice of assignment’ to your invoice debtor to notify them of the assignment of the invoice. All payments thereafter will go through an account set up by the financier.
4. The invoice debtor pays the financier
According to the 90-day payment stipulation in your invoice to your debtor, the debtor will have to eventually make the payment for the goods or the labour charges for the services. However, with the presence of the assignment, the payment is now assigned to the financier instead of to you. Typically the financier will choose to follow the historical process for collection from before the financier was introduced as it helps to create a more seamless experience for your client.
5. You get paid the Balance
Once the financier has received the full payment from your client, they will deduct all transaction fees and charges. The remaining amount after deduction is then forwarded to your account, thus completing your agreement.
This simple process helps ease small business cash flow problems and takes the burden of having to wait for payment all the time. There are many recognized market operators that offer invoice financing in Malaysia, ours included. If you are interested to learn more or chat with us on an invoice financing solution get in touch with us by clicking the link below.
Do I have to finance all my invoices?
The answer to this question varies with the products the financier offers. If you have agreed to spot financing, where you get to pick and choose which invoices to finance, then the answer is a definite, no.
However, most financiers prefer contract financing, where they require a minimum monthly invoice volume from you as a business. In this case, the answer is, maybe. Depending on the value of your generated invoices and if they meet the minimum monthly amount for financing, you may need to submit more invoices to fulfil the requirements for financing. So remember to take this into account when engaging a company for invoice financing.
Hopefully, some of these answers will help you in your journey to invoice financing.
Advantages and Disadvantages to Invoice Financing
When dealing in matters of the coin, there are always two sides to the story. To some businesses, invoice financing might be just what they need, but maybe there is another side to consider in this contractual agreement.
Advantages of Invoice Financing
Stabilized Cash Flow
The main reason businesses and SMEs opt for Invoice Financing is to generate and maintain their cash flow. Having access to the funds, otherwise tied up in invoices quickly, allows for the business to be in a better position to cover expenses. It also gives way for business to expand and explore new possibilities.
Extended payment terms
Having to wait up between 30 to 90 days for invoices to be paid, can stunt the growth of a business. Especially in smaller businesses. However, clients are less likely to engage a business that has too short a payment term. This is where Invoice financing, allows for businesses to confidently state longer payment terms while still maintaining cash flow.
Easy to meet qualifications
Unlike other business loans or SME financing options, it is exponentially easier for businesses to qualify for invoice financing so long as the company has no adverse credit history.
No Collateral Needed
The majority of financiers who offer invoice financing do not require for assets to be provided as collateral, otherwise known as, security. In many cases, the invoice itself acts as the collateral making this financing solution more approachable than many other financing products.
Credit limit grows with the business
When applying for a business loan, the criteria for the amount approved is based on your business revenue and credit score. However, the amount you borrow against invoices is based on the total invoice amount. Despite financiers only being able to finance up to 80% of the invoice value in some cases, the fact remains that you will have access to more capital compared to an overdraft or bank loan.
No defaults on Liabilities
As mentioned before, using this financing tool makes it easier for businesses to regulate their cash flow. Making it easier to not default on any liabilities, such as paying your overheads on time.
Disadvantages of Invoice Financing
Commercial Invoices Only
Invoice financing is a strictly B2B (business-to-business) financing tool, which means financiers will only finance invoices from other businesses. If your SME deals with the general public, in a B2C (business-to-consumer) format, then you may not be eligible.
Depending on the nature of invoice financing offered, as mentioned, you may be effectively transferring responsibility to a third party to manage your invoice payments. Some of your clients may not be too amicable with this new arrangement. Remember to always explain your reasoning and maybe even let them know ahead of time.
It solves half a problem
Invoice financing is specifically designed to solve the problem of insufficient cash flow. If your clients or customers always pay their invoices on time and within reasonable payment terms, then you won’t need this service. Therefore, if your business simply needs access to capital for other reasons, you will have to go the long way around with business loans and financing.
You’ve made it to the end! Thank you for staying with us and we hope you found this article helpful. If you are looking for invoice financing opportunities, visit us at Funding Societies by clicking the link below.
Disclaimer: The information provided to you in this blog post is intended only for general information purposes only and does not constitute legal or other professional advice on any subject matter. The materials and the information provided are not intended to be and do not constitute an advertisement or solicitation. In no event will Funding Societies be liable to any party for any direct, indirect, incidental, special, consequential or punitive damages for use of such information by you or any unauthorized third party.