By Tracy Ewen, Managing Director at IGF Invoice Finance
Credit can conjure up fear among many small business in the UK, leading to a very guarded approach to borrowing. This aversion among small and medium-sized enterprise (SME) leaders to traditional forms of credit and borrowing, combined with a lack of awareness of funding options when bank loans are not appropriate, can leave SMEs feeling that they have few available options.
The ability of firms to protect against cashflow shortages due to late – or even absent - payments, is limited by having a constant low level store of cash in reserve. It is difficult for small businesses to build up such reserves, as doing so diverts money from being invested in training, supplies and staff. Ultimately, this means that without credit, companies believe that they must sacrifice growth to maintain solvency. Unwilling to make this commitment, business owners are turning to simple – but risky – options such as credit cards, overdrafts and even payday loans for injections of capital. Such methods are often unsuitable forms of borrowing that only further the negative image of credit. Many firms remain unaware of the options available to them, meaning that growth remains a greater challenge than it needs to be.
Although the SME environment is improving, survival rates still remain lower than they could be; in London, just over 55 percent of SMEs operate for longer than a year. In this tough climate, many companies turn to forms of credit, such as the aforementioned credit cards and overdrafts, as a last resort. The reality is that this does not need to happen - instead, a thorough understanding of the alternative options available can aid growth without the risks of unstructured, unmanageable debt.
One option to consider is invoice finance, which provides companies with the cash they need based on the value of their current unpaid invoices. This form of borrowing often comes with the additional advantage of free expert advice – an invaluable resource that can really help owner-managers on the path to success.
Invoice finance is especially useful for SMEs, as these companies often face significant ‘payment gaps’ between invoices owed and invoices paid. Whilst smaller suppliers need to be paid quickly, large customers continue to extend their payment terms. Some larger companies now subject SME suppliers to payment terms of up to 120 days.
Along with alternative finance options there are a number of proactive strategies and financial tools available to help SMEs bridge the payment gap:
1. Know customer payment habits and reliability. Some will pay on time, every time – others will be late frequently. Knowing who can be relied upon can make accurate cashflow estimates easier to achieve;
2. Make sure all your invoices are correct before sending out. This will make the process as fluid as possible, giving your customers no excuse for not paying on time;
3. Review payment processes and implement clear and rigid credit terms. Potential customers should be told upfront and agree to your credit terms before you provide your product or service;
4. Consider the future. Prepare realistic cashflow projections for the next year, quarter, month and even week. This will alert you to any issues, giving you the chance to address the situation before it becomes a problem;
5. Open up a dialogue with your finance partners. Financial services providers offer a wealth of free financial advice and expertise that is often unknown and untapped by SMEs.
Good cashflow allows a business to operate, invest, grow and work towards its potential; without this, it will be difficult to keep afloat. To mitigate the risk of defaulting on payments to suppliers and staff, businesses need to think carefully about what tools and strategies are at their disposal. A steady cashflow will ultimately enable a company to succeed.