The difference between Invoice Factoring & Asset-based Lending

Companies often find themselves in need of additional capital to fuel growth, manage cash flow fluctuations, or undertake new ventures. Two popular options that aid in achieving this goal are Invoice Factoring and Asset-based Lending. While both methods provide businesses with access to much-needed funds, they operate on distinct principles and cater to varying financial needs. In this article, Fred Paatz, Founding Partner and CEO of Express Business Funding, delves into each solution’s mechanics, benefits, and considerations that should be made when employing either one.

Invoice Factoring: Unleashing Working Capital

Invoice Factoring is a financial arrangement where a company sells its accounts receivables or invoices to a third-party entity known as a factor. This factor, usually a specialized financial institution, then advances a portion of the invoice value to the company (typically around 80% of the invoice value, though this varies by each case). The factor (generally) assumes the responsibility of collecting payments from the company’s customers, and once the invoices are paid, the remaining balance is returned to the company, minus a fee for the factor’s services.

“At EBF, we do things differently to the rest of the Alternative Finance industry. We allow our customers to opt to ensure payment from their customers for the outstanding, factored, invoices. In this way, they can maintain their relationships without disruption from a third party. We do this by extensively working with our customers to establish a strong payment history from their customers and leave the supplier-customer relationship undeterred by the provision of our services,” says Paatz.

The Benefits of Invoice Factoring:

• Quick Access to Funds: Invoice factoring provides a swift injection of cash, helping businesses bridge gaps in cash flow and meet immediate financial obligations. When working with an effective financier, funds can be released within as little as 4 days.
• No Debt Incurred: Since Invoice Factoring is not a loan (it is, instead, a sales agreement used to speed up deferred income), the company doesn’t accumulate debt on its balance sheet.
• Outsourced Collections: The factor handles the collection of payments (when requested to do so), relieving the company of administrative tasks and potential headaches associated with late payments.
• Flexible: The amount of funding a company can access through factoring is directly tied to its sales volume, allowing for scalability. Factoring agreements typically run for extended periods. This allows a business that factors its receivables to remain dynamic and pivot easily when required.

“EBF’s clients receive the added benefit of having a diligent, experienced team on hand to assist where required. We offer consulting and sound advice to our customers as a standard. This not only allows us to set ourselves apart from the competition but also further ensures the future success of the businesses with whom we work,” adds Paatz.

Considerations when employing Invoice Factoring:

• Customer Perception: As the factor (generally) communicates directly with customers for payment, it might influence the customers’ perception of the company’s financial stability. It can also have an impact on the overall quality of the customer relationship. This is, however, null and void when you engage a factor that allows you to maintain autonomy over the collection of payments.
• Cost: Factoring fees can be relatively higher compared to other financing options if you are not selective over the factor that you engage, though you should note that a well-structured finance agreement supplied by an effective factor can offer fair and equitable terms. It is important that you ascertain exactly what the cost of a potential factoring agreement may be.

Asset-based Lending: Unleashing Tangible Capital

Asset-based Lending involves borrowing funds using a company’s tangible assets as collateral. These assets could encompass a range of items, such as inventory, equipment, real estate, or, in the case of a blended-finance solution, accounts receivables. The borrowing limit is often determined by the value of the asset/s being used as collateral.

“Asset-based Lending unlocks capital based on the value of your business, and not the perceived value of your business, as is often the case with traditional forms of lending,” says Paatz.

The Benefits of Asset-Based Lending:

• Higher Funding Limits: Asset-based lending typically allows companies to access larger amounts of capital than Invoice Factoring and other forms of traditional lending, such as standard loans.
• Asset Utilization: Companies can continue using their assets for operations while still leveraging them for financing.
• Lower Interest Rates: Interest rates for Asset-based Lending are typically lower than other types of alternative financing because it is secured by an asset and therefore presents a lower risk profile.

Considerations for Asset-Based Lending:

• Collateral Evaluation: The value of the assets offered as collateral directly impacts the amount of funding a company can receive. Smaller businesses with a relative asset pool may struggle to secure the finance they require.
• Risk of Asset Loss: If the company fails to repay the loan, it could lead to the forfeiture of the pledged assets.

“Smaller businesses which require higher capital than their asset base allows them access to seek out a financier who offers mixed finance solutions, such as ABL [Asset-based Lending] and Invoice Factoring, where a larger amount of capital is deployed for their assets, and a stream of frequent (but smaller) capital is deployed for receivables factoring. At EBF, for example, we take a client’s whole need into consideration and structure tailored solutions based on this,” says Paatz.

Both Invoice Factoring and Asset-based Lending provide essential solutions to different financial requirements. Invoice Factoring is a powerful tool for managing working capital and overcoming cash flow gaps, while Asset-based Lending allows companies to unlock larger amounts of capital by leveraging their tangible assets. If you would like to assess your business’ options in greater detail and employ the right solution today, get in touch with one of our dedicated team here.