Invoice financing comes with a wide range of terms that are often confused and cause problems for businesses.
The question of invoice discounting vs factoring is one of them. Both are ways of accessing funds based on outstanding invoices, yet business leaders may struggle to identify:
- The key differences between these two important funding solutions
- How each financial option can impact their business’s operations
- Other short-term financing solutions that can help them access funds without the drawbacks of traditional invoice financing.
Having this knowledge is important. B2B businesses that know which invoice finance facility is best for them not only optimize their cash flow, but they can also offer flexible payment terms to their customers.
This often leads to increased sales and the business growth that comes with it.
Read on to find out the difference between factoring vs invoice discounting, the pros and cons of each one, and how Mondu’s Buy Now Pay Later (BNPL) is offering businesses a win-win scenario for them and their customers.
- What is invoice factoring?
- What is invoice discounting?
- Invoice discounting vs factoring: The key differences
- Mondu’s short-term customer financing: A modern approach replacing invoice factoring and discounting
- A smarter alternative to invoice discounting vs factoring
What is invoice factoring?
Invoice factoring, sometimes referred to as debt factoring, means that a business sells its accounts receivable (unpaid invoices) to a factoring company at a discount in exchange for upfront funds.
The factoring provider then carries out the collection process for the funds, which involves reminder letters, phone calls, or even legal action, and the costs that come with them.
The advantages of invoice factoring
Many businesses opt for invoice factoring for the following reasons:
- An immediate cash flow boost by accessing funds tied up in customer invoices – a common business funds bottleneck.
- Credit management savings, as the factoring company takes on credit control and chases customer payments on the seller’s behalf.
- It often includes non-recourse, which means that the factoring company bears the risk of the customer’s non-payment, including bad debt and insolvency.
- It requires no collateral, so businesses don’t need to risk valuable assets to secure the funding.
The disadvantages of invoice factoring
Businesses should also be aware of the downsides of this financing model.
- Factoring fees can be higher than other financing options, potentially reducing profit margins.
- It can affect customer relationships, especially if the factoring lender pursues the payments aggressively.
- The factoring provider may demand all of a business’s customer invoices for the arrangement, instead of a select few. This can mean a large overall reduction in revenue.
- Customers’ creditworthiness comes into play. The provider may not take on the invoice if their credit checks reveal a poor payment history.
What is invoice discounting?
Invoice discounting is another form of invoice finance, but unlike factoring, the business borrows funds against the value of its outstanding invoices while retaining ownership and responsibility for collecting payments.
This provides a boost to working capital without direct involvement from the finance provider with the business’s customers.
How does invoice discounting work?
A small business has outstanding invoices totalling £50,000. To improve their cash flow, they opt for invoice discounting.
A finance provider advances them 80% (£40,000) of the invoice value. The business retains ownership of these customer invoices and continues to manage the collection process.
Once their customers pay, the business owner uses these funds to repay the advance plus an agreed fee to the finance company. This allows them quick access to working capital without their customers necessarily knowing about the arrangement.
The advantages of invoice discounting
- Customers remain unaware of the discounting arrangement, which helps preserve the direct relationship between them and the business.
- It generally incurs lower fees than factoring, as it is a matter of simply lending the money instead of taking on the full debt burden.
- Selective invoice discounting is more commonly accepted than with factoring, so the business is more likely to get the total value of the invoices outstanding.
The disadvantages of invoice discounting
- There is no collection assistance, so the business remains responsible for payment reconciliation and chasing late payments, should a customer not pay
- It typically comes with full recourse, which means if a customer fails to pay an invoice, the seller remains responsible for the debt. They would need to repay the advanced funds to the invoice discounter, increasing exposure to bad debt risk.
In contrast, a non-recourse agreement shifts this risk to the discounter. If a reserve amount was held by the discounter, it might be used to offset the loss, though it may not cover the full outstanding amount.
Invoice discounting vs. factoring: The key differences
Both invoice factoring and invoice discounting offer solutions for businesses to access funds tied up in their unpaid invoices, and both enjoy a high approval rate. UK small-to-medium enterprises (SMEs) recently reported a 76% success rate when applying for this funding.
Outcome of factoring or invoice discounting applications for SMEs in the UK. Source: Market.us
Yet the two funding models operate with distinct mechanisms that can cause difficulties.
The following table highlights the core differences between these two types of invoice finance.
Invoice factoring vs discounting
| Feature | Invoice factoring | Invoice discounting |
|---|---|---|
| Ownership | Invoices are sold to the factor, who takes over ownership and collections. | Merchants keep ownership and borrow against the invoice value |
| Transparency | Customers are usually notified of the arrangement. | Customers are not informed of the arrangement. |
| Collections | The factor manages credit control and collects payment directly. | Merchants stay responsible for chasing payments. |
| Cost | Higher fees due to credit control and risk transfer. | Lower fees as merchants handle collection and risk. |
| Invoice selection | May require all invoices, thus reducing revenue across the board. | Often allows selective invoice use, allowing more control. |
| Suitability | Better for smaller businesses or those with less reliable payments. | Suited to larger businesses with steady cash flow and strong customer relationships. |
Mondu’s short-term customer financing: A modern approach replacing invoice discounting and factoring
Invoice discounting and invoice factoring are both popular methods for freeing up capital from invoices, but each has drawbacks that can accumulate costs and impact operations.
Mondu’s B2B Buy-Now-Pay-Later (BNPL) model offers a short-term financing solution that improves cash flow for both sellers and buyers. Mondu enables merchants and marketplaces to offer flexible payment options directly at the point of sale – online or offline. Buyers enjoy deferred payments, which preserve their working capital, while sellers get paid upfront by Mondu, which also assumes the risk of non-payment.
Not only does your business gain access to short-term financing, but you also enjoy higher conversion rates thanks to better payment options, and you dramatically reduce your workload, as Mondu manages the entire payment process – from credit and fraud checks to collections and dunning.
Tiger Facility Services, a digital services provider, is one example. “With Mondu, we have found a solution for invoice purchasing that reduces our operational effort and conserves our working capital”, says CEO Martin Kellert.
Here’s how Mondu delivers benefits for both your business and its customers.
High approval rates with real-time decisioning
Mondu’s risk engine assesses credit risk and fraud and provides real-time approval – compared to days and sometimes weeks with traditional finance providers.
Over 91% of orders placed by trade customers are approved by our risk engine, compared to 76% for other invoice factoring or invoice discounting options.
Not only does your business find accessing funds easier than ever before with Mondu, but you also dramatically reduce the work you must do to do so.
Flexible repayment options
Unlike invoice factoring and invoice discounting, which mainly focus on helping the seller, Mondu gives your buyers various ways to pay, like longer payment windows of up to 90 days, a range of payment methods, and flexible instalments.
Mondu’s range of payment options
Helping your trade customers like this not only keeps customer relationships pristine but it boosts future sales. Mondu customers experience more than a 20% increase in conversion rate and a 20-50% increase in basket size, something that just freeing up invoice cash does not do.
Seamless workflows
Mondu embeds into the merchant systems you already use, including e-commerce platforms (like Spotify) and PSPs (like Mangopay). It also integrates with ERP and CRM systems. This means an easy integration for you and a smooth customer journey for your customers.
Additionally, Mondu manages the payment collection in a professional manner, including handling late payments and dunning if needed — eliminating the administrative burden for your team.
A smarter alternative to invoice discounting vs factoring
Mondu doesn’t just help you with your payments; our flexible repayment options also make buying better for your customers.
This two-sided approach, looking after both your business needs and your customers’ needs, is new compared to older finance methods that often focus mainly on the seller.
Bottom line: Mondu’s BNPL is a modern upgrade on business finance, blending smart technology, better payment choices for customers, easy integration, and benefits for everyone involved.
Want an alternative to invoice financing without the risks? Contact Mondu to find out how you can use short-term customer financing to grow your business.
FAQ: Invoice Discounting vs. Factoring
The main difference lies in ownership and collection responsibility.
With invoice factoring, you sell your invoices to a factor who takes over ownership and collections. In contrast, with invoice discounting, you retain ownership of the invoices and borrow against their value while remaining responsible for collecting payments from customers.
Invoice factoring involves selling your unpaid invoices to a factoring company at a discount in exchange for upfront funds.
The factoring provider then takes over the collection process, which may include sending reminder letters, making phone calls, or even taking legal action to collect the payments from your customers.
Invoice factoring offers several benefits:
- Immediate cash flow boost by accessing funds tied up in customer invoices
- Savings on credit management as the factoring company handles collections
- Often includes non-recourse agreements, where the factor bears the risk of non-payment
- No collateral required, protecting your valuable assets
Some disadvantages of invoice factoring include:
- Higher fees compared to other financing options, potentially reducing profit margins
- Potential impact on customer relationships if the factor pursues payments aggressively
- The factoring provider may require all of your invoices, not just select ones
- Customers’ creditworthiness may affect the factor’s willingness to take on invoices
With invoice discounting, you borrow funds against the value of your outstanding invoices while retaining ownership and responsibility for collecting payments.
For example, if you have £50,000 in outstanding invoices, a finance provider might advance you 80% (£40,000) of the invoice value. Once your customers pay, you use these funds to repay the advance plus an agreed fee to the finance company.
Invoice discounting offers several benefits:
- Customers remain unaware of the arrangement, preserving your direct relationship
- Generally incurs lower fees than factoring
- Often allows for selective invoice use, giving you more control over which invoices to finance
Some disadvantages of invoice discounting include:
- No collection assistance, so you remain responsible for chasing late payments
- Typically comes with full recourse, meaning you’re responsible for repaying the advanced funds if a customer fails to pay
- May expose your business to bad debt risk if customers don’t pay
The choice between invoice factoring and discounting depends on your business needs:
- Invoice factoring is generally better for smaller businesses or those with less reliable payments, as it offloads the collection process and credit control to the factor.
- Invoice discounting is more suited to larger businesses with steady cash flow and strong customer relationships, as it allows you to maintain control over collections while still accessing funds.
Yes, modern alternatives like Mondu’s Buy Now Pay Later (BNPL) solution offer a new approach to short-term customer financing.
Mondu enables merchants to offer flexible payment options directly at the point of sale, both online and offline. This solution benefits both sellers and buyers by providing upfront payment to sellers while offering deferred payment options to buyers.
Mondu’s BNPL solution offers several advantages over traditional invoice factoring and discounting:
- Higher approval rates (over 91% compared to 76% for traditional methods)
- Real-time credit decisioning
- Flexible repayment options for buyers (up to 90 days)
- Seamless integration with existing merchant systems
- Management of payment collection, including late payments and dunning
- Potential for increased conversion rates (20% or more) and larger basket sizes (20-50% increase)
By addressing both seller and buyer needs, Mondu’s solution provides a modern alternative to traditional invoice financing methods, potentially leading to improved cash flow and business growth.
