How often do you use the ‘F’ word?
Clearing up confusion and cleaning up your act in cash flow services.
Some may find it surprising that invoice debt funding services have been in the UK in earnest for 40 years. Up to the 1960s what I now define below as Factoring was about the only game in town. The market has developed out of all recognition since then. Having worked in recruitment both as a user and provider of invoice finance and outsourced services for BACS and now, working as the MD of a recruitment invoice finance and support company, I am very much aware of how the F word “Factoring” is often misused and misunderstood in the recruitment industry in particular. In essence, what recruitment companies really want to buy when they speak of “Factoring” is cash flow and service. The analogy – which sucks – is that they want to buy a “Vacuum Cleaner” but they ask for a “Hoover”.
Factoring has often become the generic word for raising cash flow from invoice debt funding, and that can cause confusion because in recruitment in particular there are many more ways of obtaining cash flow from invoice debt, than simply factoring.
The Asset Based Finance Associations former name ‘Factors & Discounters Association’ provides a clue with the word “discounter” although I very much like the phrase “Asset Based Lending” because in fact, a debt on an invoice is really just another asset against which funds for cash flow can be advanced by a lender. Just as not all vacuum cleaners are Hoovers, not all Invoice Finance is factoring.
In addition, not all invoice debt finance falls within the general definition of factoring, and so it follows that not all factors or “factoring offers” are the same either – as I am sure factors will be pleased to tell you. Those that service the heavy engineering business sector will have a very different approach to invoice debt finance from those that service the recruitment sector, where “invoiced pre dispatch stock holdings” simply do not form part of the debt risk and balance sheet assessments. However all invoice funders are Asset Based Lenders where the asset is invoice debt. I hope that the general term “Invoice Finance” might replace Factoring in the recruitment industry at some point, not only so that buyers can seek out the right service deal for their business, but also because it uniquely has so much more than just Factoring on offer. The recruitment industry is cash hungry and a good contract with temps paid weekly, but with clients taking up to 7 or 8 weeks to pay, can be a cash flow killer. There is a simple explanation below of the most common offerings in the recruitment industry, listed by service level, that I hope might prove helpful to recruitment businesses using invoice finance to gain improved cash flow.
To help you get your heads around what can be a complex array of choices for someone outside the finance world, here’s the four key areas of asset finance as they pertain to the recruitment sector:
The least expensive cost and service offering is called Invoice Discounting, or I.D. This is generally a “confidential” arrangement C.I.D (i.e. there is nothing on your invoices to indicate that the invoice has been used as an asset against which you have raised funds.) I.D. is not generally available to new starts in the recruitment industry because since the discounter is remote from the invoice details, as well as P&L history and a satisfactory balance sheet, it would want to see strong evidence of a track record of good sales ledger management and credit control by its prospective client. Clearly new starts cannot provide such evidence. The borrowing limits are generally firmly fixed, so good cash flow forecasting is imperative and bad debt provision needs to be made or credit insurance purchased. Cash demands like VAT and PAYE returns must be carefully planned for so that you always have enough cash to pay temps.
This is probably the best known, but often misunderstood form of debt financing. There are various levels of involvement and support but factoring normally adds two “signature” elements of service to the Discounting offer. These are sales ledger management and credit control. The service costs a little more than Discounting but it can also remove the heavy administrative burden of credit control. Normally, your invoices bear an “Assignment Stamp” confirming that the debt has been assigned to a factor and because of this involvement and security, often higher levels of funding is allowed than would be obtainable from discounters. Because invoices in recruitment are supported by time sheets, factoring is quite often available to new start temp businesses in recruitment, although less so since an increase in the number of frauds has been witnessed alongside the effects of the credit crunch. The borrowing limits are generally firmly fixed, so good cash flow forecasting needs to be in place and bad debt provision needs to be made, or credit insurance purchased and cash demands like VAT returns and PAYE payments carefully planned for, so that you always have enough cash for the most time critical and cash demanding payment – temps wages.
Invoice Funding and Support Companies
These are unique, we believe, for the requirements of the recruitment industry. Again there are various levels of involvement and support but generally they will add to the “signature” sales ledger management and credit control of factors, their “signature” of payroll for temps and invoice generation of your invoices. The best suppliers will provide a comprehensive service including the following: at least a week’s grace in cash shortfalls to cover temp wage payments (rather like a free emergency over draft so temps never suffer), bad debt protection, comprehensive weekly and year to date management reporting (including holiday pay reporting), SMS reporting for mobile branch managers, all reporting and payments to HMRC for temps, yearend returns, online to HMRC for the fast updates to temps’ tax status (which are needed to service this fast moving industry), bespoke invoice and payslip printing with your logo, invoice and timesheet matching, despatching and reporting, VAT payment provisioning, legislation change alerts and much more. Because of the intimate involvement with your invoicing and payment cycles and therefore reduced fraud risk for the funder, higher levels of funding can be made available and such services are specifically useful to new starts. With such services you normally do not need to plan for cash flow “holes” resulting from bad debt or VAT returns or whether there will be enough cash to cover the temp payroll and PAYE tax payments to HMRC etc.
Pseudo Invoice Financers
Again, we think these are unique to the recruitment industry. They present like the Invoice Funding and Support Companies already mentioned and provide many of the services associated with them. Unlike all of the categories above however, the invoice to the end user is not in your name and the sales to the end user are not yours. Their “signature” is that you will be required to use their terms and conditions of business and the invoice to the client will be theirs, a portion of which will be paid to you. It could be argued that because the invoices to end user clients will not be yours but theirs; that such businesses are not really invoice finance companies at all, but de facto employment businesses. Such services are very useful for new starts who wish to work as “agents” of the invoice financer rather than as principals of their own business. With such service you normally do not need to plan for cash flow “holes” resulting from bad debt or VAT returns or whether there will be enough cash to cover the temp payroll and PAYE tax payments to HMRC etc. However, recent pressure from the VAT man means there are fewer pseudo invoice financers in the market. You might wish to assure yourself that you have no VAT liability for their invoices – and HMRC is happy with their company structure – before committing.
The rapid pace of change in the recruitment industry means that many invoice finance variations have evolved and as well as the services outlined above, we have seen agency factoring, bulk factoring, disclosed invoice discounting, merchant financing, confidential factoring and Asset Based Lending all mentioned as titles and schemes. Many, like the unsuccessful Darwinian evolutions, will doubtless be discontinued in time. So perhaps it is no surprise that potential buyers of cash flow and services use the F word all too often. My hope however, is that my small contribution to further understanding some of the different offerings might help potential buyers to seek out the kind of invoice finance (cash flow service) they really need rather than simply asking for – and consequently be offered – a “factoring” service which could be, but might not be, the best cash flow service solution for their business.