Debtor finance soars as SME cashflow and funding woes worsen

The use of debtor finance is soaring as SMEs struggle to plug cashflow and financing gaps by borrowing against their debtors.

According to new figures from the Institute for Factors and Discounters for the March quarter, factoring turnover hit $1.26 billion, up 31.4% on the March quarter in 2011 and the second highest quarterly figure on record.

The March data also highlights the sharp differences between the performances of SMEs in Australia’s two-speed economy.

Factoring turnover surged 99% in NSW and the ACT during the quarter, with total turnover hitting $234.7 million.

By contrast, Western Australia also saw strong growth, with a 25.6% increase leading to total turnover of $241 million.

Gary Green, national sales director of debtor finance firm Bibby Financial Services Australia, says the strong growth in NSW underlines the cashflow pressure on SMEs outside the mining sector.

In Western Australia, the story is very different.

“The flow-on effects from the mining boom mean that businesses are struggling to deal with cash pressures to fund the many new business opportunities,” Green said.

There are two popular forms of debtor financing. Confidential invoice discounting involves the finance company “buying” a client’s past and future debts and providing a business with instant funding of 80-90% of the amount owed – all without customers knowing. Factoring works the same way, although customers are made aware that the finance company has responsibility for debt collection.

There are a number of conditions that a company will need to satisfy. Debtor financing companies will look closely at the quality of a company’s debtor ledger (particularly the viability of its customers and any existing deals with various buyers), the spread of the debtor ledger (how reliant the company is on one or two customers) and the ageing of the ledger (how long it takes customers to pay).

Debtor financing companies also typically require director guarantees before they take a company on as a client.

Green says there is a range of factors driving the growth in debtor finance.

Cashflow remains tight – as underlined by the fact that payment terms remain firmly over 50 days – and falling property prices mean the ability for SMEs to borrow against their homes is somewhat restricted.

In addition, the ATO is ramping up demands for tax debts to be paid and sectors such as manufacturing and construction have industry-specific problems.

“Cash is the oxygen for any business and there is certainly pressure on working capital.

“We are seeing many clients who do not wish to risk their personal property but need an increase in their lending facilities. Softening property values combined with stringent bank lending conditions might also be factors, as we are seeing many businesses that have had increases to their funding facilities refused by traditional lenders,” Green says.

Bibby says referrals from finance professionals, including accountants and finance brokers, are up 23% so far in 2012.

Green says the industry has grown at 20% to 30% over the last few years and remains somewhat immature compared to the US and the UK, where debtor finance is a more mainstream product.

“Referrers from professional advisers are a key sales channel for us, given we are still an unknown product for many people.”