The post-GFC rise of debtor finance as a source of cash flow relief is a sign of the sector’s growing maturity in Australia.
Nearly all debt-financing agreements are discounting deals, where a company borrows a percentage of an outstanding debt invoice. Factoring, where the debt financier actually purchases the invoice from the business, accounts for the remainder of agreements.
But having hit a wall at the start of 2009, when global meltdown loomed, after clocking almost 2000 per cent growth over the previous 12 years, the debtor finance sector is now bouncing back.
According to the Debtor and Invoice Finance Association of Australia (DIFA), the sector now provides about $60 billion of funding to business – surpassing its pre-GFC peak for the first time – and represents one-twentieth of the Australian economy.
“The sector has certainly recovered since the GFC,” DIFA chairman Peter Langham says. “We had highs going into the GFC and we’ve certainly got back to those levels. It’s taken a while. Since the GFC, smaller businesses have been reluctant to increase their debt and haven’t been borrowing as much as they used to, so we’ve probably had very slow or steady growth since the GFC – not the growth we had [prior], but we’re certainly expecting more.”
One of the drivers of the recent growth, DIFA believes, is better recognition of the benefits of debtor finance among medium-sized and large businesses, along with a growing range of products on offer. More banks and other mainstream financial organisations are now entering the market.
Larger companies seeking facilities
The sector has seen the average size of agreements increase by 27 per cent over the past five years, which Langham says reflects the change in the type of company now seeking debtor finance.
“Since the GFC we haven’t seen a massive increase in demand from the traditional SME clients that we used to see,” Langham says, “but we have seen an increase in the size of businesses using debtor finance.
“Larger companies are using debtor finance facilities and I think what they’re recognising is that these facilities are strictly geared to the success of the business. With debtor finance, the more their business grows, the more their working capital facility grows.”
It has become more commonplace for larger companies to write agreements with banks for funding of $50 million-plus against their receivables, and occasionally more than $100 million.
More usually, a debtor finance facility is used by an SME to bridge a cash flow gap between a weekly or fortnightly cycle of expenses, and the 30-, 45- or 60-day terms of their invoices. Alternatively, a facility can help to fund rapid growth or the fulfilment of a large order.
DIFA claims these facilities also usually come with less restrictive covenants, as the funding is directly linked to the value of receivables. As a working capital facility, the only comparable alternative to debtor financing is a bank overdraft or loan, which are often secured against property and so bear more restrictions.
Receivables to cash quicker
“You’re basically turning your receivables into cash quicker than they would normally be turned into cash,” Langham says.
“A business experiencing a steep rise in sales has an increased cost of goods, and needs to source inventory to service the demand from clients. These businesses will often incur other costs as they grow, such as increased wages to pay for more staff to service demand. A growing business therefore requires working capital to pay for goods and services before the sale is made and payment is received. If that capital is to come from day-to-day cash flow, then the business runs the risk of running out of cash to service day-to-day obligations as they fall due.”
The debtor-financing sector currently handles more than $60 billion of sales a year in Australia, and represents less than 5 per cent of GDP – compared with volumes closer to 15 per cent in the British and some European economies.
Langham believes the same level is achievable in Australia and that, while most of the recent growth has come from existing independent debtor finance providers, he sees the increased activity of banks as a very positive stage in the maturation of the local sector.
“We’ve quite a way to go to keep growing,” he says. “By the estimate of equivalent economies overseas we’re probably only catching one-third of the market.
“With more of the banks offering debtor financing – Suncorp, Bank of Queensland, Westpac, NAB – [they] are looking at it as a mainstream product and doing more marketing internally. Given the economy hasn’t been growing – and there’s probably been a bit of lack of confidence within some SMEs – I think we’re well-placed to benefit from any upturn in confidence if interest rates turn low.”
A recent survey by Bibby Financial Services found 40 per cent more SMEs were finding it more difficult to manage their cash flow than 12 months ago.
Managing director Mark Cleaver says its SME Cash Flow Index for the March quarter reported that 25 per cent had ceased trading with customers who consistently paid late. About 23 per cent were spending more time chasing invoices and 19 per cent were offering discounts for early payment.