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Tata Capital > Blog > Wealth Services > What is Invoice Discounting and How does it work?

Wealth Services

What is Invoice Discounting and How does it work?

What is Invoice Discounting and How does it work?

Ajay Sinha has a plastic manufacturing business. Only recently, he had dispatched a big order to a supermarket store. As per the sales agreement, he will receive the payment two months later. Now he has an even bigger order from another store.

The catch is, he doesn’t have enough funds to purchase raw materials for the order. Although payment from the first order is guaranteed, he’ll lose the second one if he doesn’t deliver it within the deadline. At times of crisis like this, invoice discounting or bill discounting comes as a saviour and aids a company’s future growth.

What is Bill Discounting?

Bill discounting is a type of debtor finance. It is a practice implemented by business owners to release cash flow by vending outstanding invoices as collateral to a third party for the purpose of a loan.

How does Invoice Discounting Work?

At least once a month, the borrower company submits an accounts receivable report to the invoice discounting finance company. Lenders or NBFCs like Tata Capital assesses this information to decide on the amount of debt it will give to the borrower. Based on the changes in the amount receivable, the finance company adjusts the debt. The loan issued is usually 80% of all invoices of outstanding receivables that are not more than 90 days old. The borrower retains access to the accounts receivable.

This means the business working with this discounting facility remains accountable for extending credit, issuing and gathering payments from its customers in a routine manner, without letting them know about the bill discounting arrangement. This is why it is also known as discreet or confidential invoice discounting.

Advantages of Bill Discounting

Whether your business is in its primary stage or you’re eyeing to take your established business to the next echelon of success, invoice discounting provides a simple and flexible option of financial growth.

• No More Cash Flow Blips

Even if your business is well financed, you might find yourself in the middle of trouble when you have to wait for 60 or 90 days for remittance from your client and your own investors are pressing you for your payment. With invoice finance, you no longer need to worry about pending bills.

• Boosts Working Capital

With bill discounting, you can inject your business with the prerequisite cash flow by purchasing the sales ledger, thereby, also improving the Working Capital Cycle. With the immediate cash, you can meet expenses like paying your employees or buying new inputs and thus ensure a smooth running of your business.

• Extend your Business to New Customers

The facility can provide you with more cash than regular bank financing or overdraft. With funds in place, you can put forward improved and more competitive terms of trade and gain over new customers.

• Improve the Reputation of your Trade

With invoice discounting, you no longer need to wait for paying your suppliers. This enhances your creditworthiness and helps you establish a healthy connection with your suppliers.

Besides, if customers were to know your business needs external financial aid, they might be disappointed in you and it may even result in losing contracts. But the confidentiality of this procedure prevents your business from facing such degeneration and instead allows you to strengthen your bond with your clients.

• Embrace new Opportunities:

Having quick credit in your hands permits you to make the most out of new business opportunities when they come in your way. It also supports you with the buying power to negotiate for more lucrative deals with your suppliers.

• More Time and Energy for Expansion

Once you are assured that you have sufficient funds, the team and you can put your mind into setting new targets for your business without the fear of financial crisis.

When does Bill Discounting Work Best?

This is particularly beneficial for profitable firms that have a rapid growth rate and are constantly evolving financing needs for accelerated development. Additionally, your turnover has to exceed the minimum threshold from the lender. Nonetheless, today, the procedure is faster and more affordable. If done right, it can transform cash flow issues into a stress-free situation rather than a headache.