One solution that is being increasingly used by companies to deal with late payment whilst improving cashflow is that of invoice finance. This is where a finance provider pays an agreed proportion (usually 80-85 per cent) of approved invoices to the company on receipt of a copy of the invoice. The balance (less a small charge) is paid upon client payment.
With the economy growing, there has been a surge in demand for working capital in the SME sector that has created opportunities for more invoice financing. Despite this, its current use is relatively low compared to more traditional sources of lending and only 43,000 SMEs out of a total of nearly 5 million in the UK are currently utilising invoice finance. With such unfulfilled potential, it is estimated that there could be an untapped market of up to 600,000 SMEs indicating that the overall market has significant growth potential.
Whilst invoice financing is available from both the banks and independent providers, one of the major problems is that there is a general lack of awareness by SMEs of the advantages of utilising this source of funding.
In this respect, there needs to be a more concerted effort by the Welsh Government’s business support services to raise market awareness of this type of financing that could, if adopted properly, have an impact on the way some businesses in Wales can gain access to capital to grow their business.
In terms of any direct financial support, there has been a reluctance by Finance Wales to support this type of funding in the past. As a result, a new Development Bank for Wales that is currently under consideration by the Welsh Government could develop its own invoice discounting products to support businesses. However, unlike other types of products that have been developed by Finance Wales in the past, any publicly funds should not compete with the private sector and should only be developed where there is evidence of market failure.
Currently, independent invoice finance houses – such as Henry Howard Finance in Newport - tend to be restricted in the funding lines they can obtain from their own funders due to their capital constraints and the cost of borrowing which restricts the size of their ‘lend’ to a maximum of £500,000. In contrast, invoice financing provided by the high street banks is primarily focused on the larger ‘corporate’ deals where they are providing over £1 million to firms.
This means that there is a funding gap in the £500,000 - £1 million segment that is best served by independent invoice discounters that have a much greater acceptance rates than bank providers, provide a more flexible facility and a higher level of service.
There are also a significant number of Welsh SMEs that fall within this range of funding need but are not adequately catered for. If additional funding lines were available through a Development Bank for Wales for invoice financers in Wales to close this gap, then there would be considerable impact on these businesses and the jobs they wish to create.
More importantly, the risk in lending (especially compared to traditional loans) would be minimised because of the very nature of invoice finance i.e. one of the major advantages of invoice finance is that the cash lent ‘turns’ on average every 57 days. In other words, the amount lent is repaid by collections from the debtors in this timescale and is then lent again.
With such a 57-day debt turnaround, the same amount of funding can be lent over six times annually which means that an invoice finance provider lending of £500,000 to one client can, in fact, lend this amount six times annually even though the provider only needs to borrow £500,000 once.
Therefore, there is a need for greater innovation in the provision of funding SMEs and a more positive view on invoice finance help close the funding gap experienced by many Welsh firms.
Certainly, there are real opportunities for Wales to lead the way in supporting such alternative sources of funding which are relatively easy to set up and manage but, more importantly, can help fill a gap in funding that can make a real difference to the growing economy.