Growing Pains: Finance for Small Business

An unconventional form of fundraising
By Elizabeth Judge

July 2005

SOURCE: www.timesonline.co.uk

KARAN BILIMORIA is the face that the deeply unfashionable factoring industry has been looking for.

The founder of Cobra Beer is a cheerleader for this form of finance, which he says is ideal for an ambitious small business unable or unwilling to tap into more mainstream sources. “It is a grossly under-utilised route which more companies should consider,” he says.

Factoring enables companies to raise capital against unpaid invoices. Gradually, it is starting to shake off its image as the last-ditch solution for companies close to breaking point.

More than 33,000 small and medium sized-businesses used it last year.

Bilimoria turned to factoring seven years ago as a way to boost growth without handing over a hefty chunk of shares to venture capitalists or business angels. He still uses the service today.

Figures from the Factors and Discounters Association (FDA) show that the total value of invoices assigned to factors in 2002 was £118 billion compared to £15 billion in 1992.

So how does it work? Typically, the company assigns all of its invoices to the factor, who then advances up to 85 per cent of the value of the debts upfront. The factoring company takes control of the sales ledger and chases up the debts. When the customer pays, the company hands over the balance, minus a fee, to the entrepreneur.

But the extortionate fees charged by less reputable factoring providers, and the swingeing penalties which can be imposed if things go wrong, mean that it remains a risky form of finance.

For cash-thirsty smaller companies, the main appeal of factoring is that it enables them to raise more money against their debts than they would do from a bank.

“Businesses can raise around 80 to 85 per cent of the debtor book compared to around 40 to 50 if the business was borrowing from the bank,” explains Dave Totney, sales director for Lloyds TSB Commercial Finance. “It speeds up cashflow by eliminating the time lag between the issuing of an invoice and its settlement.”

He believes factoring is ideally suited to fast-growing small businesses with turnovers of up to £2 million.

But for the right “fit”, the business must have certain kinds of debt. “Factors work on the ‘sold and forgotten principle’ — so a temping agency is exactly the right kind of business for factoring but a firm dealing with lots of contracts would not be,” Totney explains.

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