Banks are not your only option...

Tracy Ewen is managing director of IGF. IGF is an independently managed commercial finance company specialising in the small and medium sized business market, particularly companies from new start-up to £10 million turnover per annum.

SMEs and start-ups need to look for alternatives to the banks
Banks are tightening their lending criteria making it hard for small businesses to borrow, so SMEs and start-up business are increasingly looking for alternative ways to get credit. The recent announcement that the cabinet has agreed to release £20bn to ease frozen credit lines sounds great in theory but the reality is quite different. The government's latest statistics on the number of SMEs in the UK (BERR http://stats.berr.gov.uk/ed/sme) shows that if only half of UK SMEs requested funds, they would each only be able to get a loan of £8,811.88. This is hardly the solution that will crack the liquidity and confidence crisis in SMEs.

Also, the red tape involved to secure these loans is a nightmare – this will not give a business a quick cash injection if it's on the brink. The government needs to take radical steps – while this is a move in the right direction it will only support a very small number of firms. So start-ups need to be creative about financing their business.

Creative financing solutions for start-ups
Start-ups need to be creative and employ more flexible finance opportunities available to them for growth, movements into new markets or simply to maintain good cashflow. Overdrafts, bank loans and equity funding are the routes most owner-managers and FDs of start-up companies think of when they need to review how their business is funded, or indeed, when they hit cashflow problems. But with banks restricting their lending, start-ups need to get creative when it comes to considering finance solutions.

Borrowing on your assets – the story so far
Most businesses with no 'fixed' assets (clients in 'people' businesses i.e. recruitment and marketing etc.) underestimate the most valuable asset they could use to provide financing for growth – their invoices. Debtor books are capable of providing significant working capital, enabling business growth.
The principle of borrowing money secured on a business' assets, particularly invoices, has been around the UK market for almost 50 years, but it's only in the last decade or so that the industry has really taken off.

Making the sales ledger work for you
Borrowing money against a sales ledger is an ideal option for start-up smaller businesses. In practice, it means cashflow situations improve with every new customer signed.

The two main types of invoice finance, factoring and invoice discounting, are broadly similar in the access they give to funding, though factoring also includes the outsourcing of the business' credit control function.

For smaller businesses, who may not have a full-time FD (often this job falls under the MD's responsibilities), factoring with this additional benefit of removing the responsibility of chasing payment from the SME's clients, can be a real bonus.

Both services can only work in the realm of business-to-business. Typical users of invoice finance are wholesalers, recruiters, haulage, manufacturing companies and family businesses.

But how does it actually work?
For an agreed administration charge, a factoring company will take control of an SME's sales ledger and will pay it up to 85 per cent of each invoice value immediately. When the customer's credit period is up – generally between 30 and 60 days later – the factor will begin its collection procedures, with some companies providing a tailored collection service to fit around the way you would like the credit control handled.

As noted above, factoring has the dual benefit of ploughing cash into a small business on a regular basis while acting as a credit and quality control service. Factors will have the skills and experience to identify habitual late payers and liaise with clients to resolve any issues, and they can also operate informally as a conduit for customer complaints.

Invoice discounting – the next stage
Invoice discounting can be perceived as a mature version of the factoring process. While the cashflow benefits are largely identical to those associated with factoring, under an invoice discounting arrangement, the client company (start-up) retains responsibility for its own sales ledger. Raising invoices and collecting the money is down to the start-up business who then has to forward them to the discounter for reconciliation. The correct solution for an individual business is down to personal preferences. An entrepreneur who is precious about customer relationships would probably not want to allow external suppliers access to its customer base. That said, as the third party supplier will usually be dealing with a customer's finance department rather than the buyer of the services, for most, this won't be a problem. It should also be remembered that lenders are different from debt collection agencies. The more happy customers you have, the more the factor can grow its own business – so it won't benefit them to annoy a company's client base by chasing payment in an unprofessional manner.

Clearly, there's also a price differential between these two types of service. With invoice discounting, there's less work for an invoice finance company to do. This will reduce the administration costs associated with the service provision. On the flipside, reducing the level of access permitted to your clients may mean more hoops to jump through initially, as you'll need to convince the provider that you are a viable, creditworthy outfit, with strong credit controls already in place. Debtor books are capable of providing significant working capital, enabling business growth.

I have other assets – can I use them?
Asset Based Lending enables a company to fund the high debtor levels associated with expansion by unlocking the potential of the assets on its balance sheet. Any asset may be considered – be it machinery, equipment, sales invoices, or a whole host of other options. Also, paying cash outright for capital assets can be a significant drain on a company's working capital.

With asset finance, SMEs can ease their cash flow through regular payments over an agreed period of time. Funding might be based on almost any type of asset - new & used cars, coaches, light & heavy commercial vehicles, plant, machinery or office equipment.●