Receivables Finance

Receivables finance is a group of funding techniques that let a business turn unpaid customer invoices into cash before they fall due. The business either sells its accounts receivable to a finance provider or borrows against them as security, receiving most of their value up front and the remainder, less fees, when customers pay. It is widely used by manufacturers, wholesalers, staffing firms and exporters that sell on credit terms of 30 to 90 days or more.

The term covers several products, including factoring, invoice discounting, asset-based lending and receivables securitisation. It is closely related to supply chain finance, but the difference lies in who starts the arrangement: receivables finance is arranged by the seller, while buyer-led programmes such as reverse factoring are arranged by a large customer for its suppliers.

A plumber finishes a big job and sends a bill for £10,000, but the customer has 60 days to pay. Meanwhile the plumber has to buy materials and pay staff for the next job. Waiting two months for the money is a problem, even though the money is definitely coming.

Receivables finance solves this. A finance company looks at the bill and the customer, and pays the plumber most of the money now, say £8,500. When the customer pays the full £10,000, the finance company keeps its fee and sends the plumber the rest. The plumber pays a little to get the money sooner.

• Factoring. The business sells invoices to a factor, which usually collects payment from customers, who are told of the arrangement. Factoring with recourse leaves the business liable for bad debts, while factoring without recourse transfers the credit risk, often with trade credit insurance behind it.
• Invoice discounting. The business borrows against its invoices but keeps control of collections, and customers are usually not told; it suits larger firms with good credit control.
• Selective or single-invoice finance. Individual invoices or customers are financed as needed, rather than the whole ledger.
• Asset-based lending. A revolving facility secured on receivables, often with inventory and other assets, with availability set by a borrowing base.
• Securitisation. A large company sells a pool of receivables to a special purpose vehicle funded by investors or bank conduits, typically in a true sale.

For exporters, related tools include export bill discounting and forfaiting.

The provider advances a set share of eligible invoices, often between 70 and 90 per cent. The available funding is:

Ineligible receivables typically include invoices overdue beyond a set period, amounts owed by related companies, disputed invoices and the excess over concentration limits on any single customer. Suppose a business has $2.0 million of receivables, of which $300,000 are more than 90 days overdue. At an 85 per cent advance rate, it can draw 0.85 × ($2,000,000 − $300,000) = $1,445,000. Costs consist of a discount charge, similar to interest on the funds drawn, and a service or administration fee, sometimes a percentage of turnover. Providers monitor the ledger closely, using the aging of accounts receivable and days sales outstanding to spot deterioration.

Receivables finance depends on the ability to transfer or charge the right to be paid. In the United States, Article 9 of the Uniform Commercial Code governs security interests in, and sales of, accounts, and generally overrides contract terms that prohibit assignment. In the United Kingdom, the Business Contract Terms (Assignment of Receivables) Regulations 2018 make many such prohibitions unenforceable in contracts with smaller suppliers. Other countries have their own rules on notifying debtors and registering assignments. The accounting outcome, including whether the receivables leave the seller's balance sheet, depends on whether risks are transferred under IFRS 9 or US GAAP.

Receivables finance grows with sales, can be faster to arrange than a term loan, and relies more on the quality of a business's customers than on its own balance sheet. It improves working capital and can outsource credit control. The drawbacks are cost, which can be high for small firms; the administrative burden of reporting; the possible effect on customer relationships when they are told of the arrangement; and the risk that funding falls sharply if sales drop or invoices become ineligible. Fraud, such as invoices for goods never delivered or the same invoice financed twice, is a known risk for providers, which is why they verify invoices and sometimes contact customers directly.