We’ll call him the Feisty Fencer.
He was looking for the deal of the Century.
He came to us after securing a huge contract to build a score of enclosures for the government.
He boasted about the money he would make in the coming year. “My profit margin is 30% on each fence,” he said full of pride.
He recognized that at times his cash flow would be stretched and he wanted the ability to factor just one or two invoices during those periods.
He didn’t want a long-term invoice factoring contract and it was clear he didn’t want to pay too much for the service.
“What’s this invoice factoring going to cost me?” The fence builder asked.
His tone suggested he was ready to drive a hard bargain and would take no prisoners.
I explained that the cost is determined by the size of each invoice, how long before it is paid and the risks involved.
If our funds are returned to us within 30 days the discount would be between 3% and 5% of the invoice amount.
I thought the veins in his neck would burst.
“That’s bloody highway robbery. How can you charge that much?’
Suddenly, a pleasant conversation had become difficult.
He furiously tapped at his calculator.
“You’re charging me an interest rate of 60% a year,” he raged.
Now, if we were giving him a bank loan and expecting him to repay it over 5 years at 5% a month it would amount to a 60% interest rate. That would be highway robbery. But, we are not a bank. We don’t lend money. We don’t charge an interest rate.
We buy an invoice at a discount. It is a straightforward transaction on which we make a small margin just like a fencing company or a shoe shop.
Cost of cash
“Say, you offer us an invoice worth $10,000, ” I explained. “We’ll pay you between $9,700 and $9,500 for it. The discount of 3% to 5% is our margin.”
A lot less than our fencer was earning.
“Let’s say you factor a $10,000 invoice with us each month for 12 months . At the end of the year we will have factored $120,000, but you will still have paid just 3% – 5% of the total value of the invoices not 60%,” I said.
“Let’s look at it another way,” I said.
In dollar terms, there is no difference between paying factoring fees of 3% or giving customers a 3% discount to pay their bills early.
Indeed, factoring is the better choice because of the negative perceptions discounting can create and the expectation that a discount will always be offered.
I could tell he still needed convincing.
“The discount we receive is based on some of the following benefits,” I said
- “We give you the opportunity to sell us a single invoice. There are no long term contracts.
- “We won’t be taking security over your home.
- “We provide you with cash when you really need it and when no one else will give it to you.
- “We provide a quick and flexible service.
- “Our service is off balance sheet, so there’s no debt and it shouldn’t affect your existing borrowing arrangements.
- “We put our investors’ capital at risk.”
That’s just a few of the benefits of invoice finance.
Comparing the cost of single invoice finance with the cost of a bank loan is like comparing shovels and screw drivers. They are both tools, but they are used for very different reasons.
I suggested to our fencer that if he needed any more convincing he should read our article, “10 reasons invoice finance is better than a bank loan”.