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Date:23^rd September 2010	Compiled by: M Sathya Kumar
Invoice Discounting - Factoring in the Change Factoring and invoice discounting companies across Europe now turnover in the region of €612bn and the market continues to grow. Finance secured against invoice debt has become increasingly popular to a business community that is now subject to a tightened credit squeeze. The availability of unsecured lines of credit, especially for firms with pressurised cash flow cycles and/or significant leverage, has simply dried up or become unaffordable. Availability of lower cost unsecured credit in the UK and France has tightened in recent years. Germany, in particular, has been subject to a slowdown, as artificially inexpensive borrowing through the state-supported Landesbank system has been withdrawn countrywide. This article looks at recent research conducted on the topic. While take-up of both factoring and invoice discounting is growing, invoice discounting (where the borrower collects the invoice debt) is seeing the strongest growth levels. In the more mature UK market, full factoring makes up around 15 per cent of the overall market. The balance between full factoring and invoice discounting is reversed in other Northern European countries. Growth in the total market varies between the major Northern European economies. The UK is the largest marketplace (turnover in 2004 - €184.5bn) with a 14.7 per cent growth rate. France starts from a lower base (turnover in 2004 - €81.6bn) but growing at an annual rate of around 11.5 per cent. Germany, where the market is young (turnover in 2004 - €45bn), is booming at 28.5 per cent each year. In order to better comprehend some of the trends currently taking place in the Northern European factoring and invoice discounting market and the increasing tendency towards invoice discounting, research was commissioned amongst the factoring and invoice discounting communities throughout Europe. The research, which ended in November 2005, looked at three specific areas. Firstly, the trend towards offering invoice discounting was examined, looking at financier and customer motivations. Secondly, respondents were queried about the capabilities of current technology, and how it was set to develop further. Thirdly, the specialist area of securitisation was examined, in order to calibrate likely use of this refinancing technique over the next two years. Drivers for Invoice Discounting Growth According to the new research, within the next two years some 86 per cent of factoring companies will be offering the invoice discounting option. This complements available statistics on the very strong growth of invoice discounting in Northern Europe. For the remaining 14 per cent who do not offer invoice discounting, there is also the emerging option of confidential factoring, where the factor still carries out collection, however under the client's company name. The study revealed that sales ledger management is not regarded as an important point of attraction for companies turning to invoice finance. Only 21 per cent of customers were thought to be principally interested in an outsourced collections service, whereas 62 per cent were motivated primarily by access to non-bank cash flow finance (17 per cent were interested in both to an equal extent). Hence it would appear the collections element of full factoring is not the main driver of the adoption of this technique. When queried as to why invoice discounting is growing at a much greater rate than full factoring, respondents cited the lower cost of invoice discounting (45 per cent), the saturated, fiercely competitive full factoring market (37 per cent), and the increasing desire for companies to keep control over their sales ledgers (28 per cent). Critically, the confidentiality element of invoice discounting was cited by respondents as a key driver for clients in their choice of this type of finance over factoring. On a scale of one to ten, where one is not important at all and ten is of vital importance, respondents gave the confidentiality element of invoice discounting an importance ranking of 7.4. The next point of the research centred on the perceived obstacles that financiers saw in converting customers from factoring over to invoice discounting. After registering the 25 per cent who saw no obstacles at all to this customer conversion, the majority of respondent opinion focused on the view that there would remain a significant group of customers who were simply too risky (either in terms of credit status or collections processes) to be in receipt of an invoice discounting service. This obviously represents a sizable proportion of clients who would never be eligible for invoice discounting. Other obstacles cited were merely temporary ones: 21 per cent held the view that technology reporting would be required prior to offering invoice discounting; and a further 16 per cent were of the view that a staff skills gap would have to be closed. The survey also investigated the current and future capabilities of systems support and performance. Critical to any factoring and invoice discounting business is the ability to understand how well invoice payment is performing, right down to the level of each individual invoice (so that rapid remedial action can be taken where necessary). 32 per cent of the industry is thought to have real-time information systems that give a completely up-to-the-minute view ofdebt collection. 55 per cent are able to view this data on a daily updated basis while 13 per cent only report payment performance on a weekly basis. There is evidently an appetite in the industry to take on board increasingly sophisticated technology support to improve business effectiveness and efficiency. Respondents felt that 60 per cent of the industry is currently using technology to report invoice level payment performance data, a proportion which is expected to rise to 83 per cent in two years time. Our next question revealed what the nature and capabilities of that technology was likely to be. When asked what principal advantages technology solutions offering real-time reporting would confer on their users over the next two years, we received two main views. The majority of respondents (79 per cent) cited the notion of better risk management, especially the ability to receive early, pro-active alerts in order to predict impending bad debt or spot possible fraud. This reflects concerns described by BCR Publishing in its regular reports on the industry: "Cases of fraud are still on the up. There are a number of reasons for this: firstly more companies are using invoice discounting, a service more commonly used in fraud; secondly, increased competition means that factors may be responding to the race to sign up new customers by cutting back on due diligence and underwriting more marginal business, although there is little evidence to support this view". The remaining 21 per cent of respondents said that they were seeking business solutions which could deliver greater efficiency, lower costs of doing business and compressed payment cycles. In other words, the larger group require solutions that extend their ability to take on clients and do business with them, whereas the smaller (but no less important) proportion require solutions to improve profitability through operation efficiencies. The technological capability required by the majority already exists in the capital markets, and is known as exception management. However, this is not adequate for the growing invoice discounter to be able to view transactions and obtain aggregated reports. Most transactions pass straight through the business process without a hitch. The problem (or potential problem) transactions are those which demand speedy resolution as they could actually end up costing significant amounts of money. It is therefore apparent that the key technological capability that the industry is seeking, is the ability to automatically spot and escalate the first signs of impending bad debt or fraud. Securitisation Interestingly, this leads us on to the final area of enquiry - namely the securitisation of the invoice pool under management by invoice financiers. In the last two to three years, systems have been developed that allow pools of invoice debt (even from multiple companies over multiple geographies) to be transferred to a legally independent vehicle and then issued onto the capital markets as notes or bonds. Because the credit rating of the debt is determined by the rating of the debtor (rather than the company that issued the invoices), this pool can be offered to the capital markets with an A rating, attracting a considerably lower financing cost over alternative refinancing methods. The technology required to achieve a successful securitisation enables and automates the stringent data entry and reporting standards required by the market regulators. This technology underpins pro-active bad debt/fraud alerts and escalation features, which will emerge as prerequisites to the factoring and invoice discounting industry over the next two years, whether or not it is decided to securitise all or part of the invoice pool. The survey does however indicate a significant 'early adopter' community, interested in proceeding with a securitisation transaction, with 20 per cent of factors and invoice discounters expecting to securitise all or at least part of their invoice pool over the next two years. Summary With the continued growth of the invoice finance market, factors and discounters are turning to the use of technology to increase business scaleability. Increasingly, there are programs available in the market that give a highly detailed and transparent view on the performance of the invoices that factors and discounters have under management. Through this greater knowledge of the status of every invoice, rapid remedial action can be taken where necessary, and a much greater degree of control over the invoice pool can be exercised. This enables factors and invoice discounters to finance more debt, whilst also minimising the risk associated with this growth. In the light of the positive attitude of invoice financiers to the adoption of new technology evidenced in this new study - and the ever-increasing amount of factors offering invoice discounting - the future of the invoice discounting market certainly looks bright. Article by Phillip Kerle - Chief Executive Officer - Demica, Prior to joining Demica, Kerle served as a senior member of the executive management team at J.M. Huber Corporation and has 25 years international business experience across Europe, Asia and the US. Kerle previously co-founded two companies, Embrace Pte. Ltd, Singapore and Paradigm Alliance Pty. Ltd, Sydney, the latter a provider of credit consulting to financial institutions in Asia. He has also held senior positions with First Pacific in Hong Kong, Schlumberger in London and Touche Ross in Los Angeles. Kerle was admitted as a solicitor in Sydney, Australia and has an LLM from Boston University
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