IT’S NO secret that cashflow is an issue for many small businesses in the UK, which has led to the growth of a booming invoice finance market. According to trade body UK Finance, invoice finance hit £18.9bn in the third quarter of 2017 – a year-on-year increase of 14 per cent.
The rigid lending criteria of high street banks is not suitable for every small business, so more and more borrowers are turning to alternative finance providers – including peer-to-peer lenders – to support their working capital needs. The best-known firm in this space is Peer-to-Peer Finance Association (P2PFA) member MarketInvoice, which purely focused on invoice finance until it expanded into unsecured business loans last November. And companies such as Lendflo, Investly and Populous have sprung up over the past few years, combining P2P investing with invoice finance.
“In the UK there is a huge market for invoice finance,” says Michael Vroobel, vice president at MarketInvoice. “It’s a huge industry, and it’s quite an established product so generally the amount of financing stays quite stable.”
Clearly this is a lucrative sector with benefits for both borrowers and investors. Investors can benefit from high returns over a short period of time, with the added bonus of being able to support UK businesses.
For business owners, invoice finance can provide a lifeline by smoothing out uneven cashflow. Recent data from MarketInvoice found that 62 per cent of small- and medium-sized enterprise (SME) invoices were paid late last year, and according to the Federation of Small Businesses (FSB), there were more than 5.7m privately-owned businesses in the UK at the start of 2017, with a combined turnover of £1.9trn. These figures suggest that more than £1trn-worth of invoice payments were delayed last year, leaving millions of SMEs in need of short-term funding.
“The proportion of small firms seeking external finance that apply for asset-based or invoice finance has risen to around one in three this quarter – up from one in seven at this time two years ago,” says the FSB’s national chairman Mike Cherry. “This growth is to be expected given the pernicious late payment culture in the UK. For the thousands of small firms that hand invoices to corporate clients only to be left waiting months for them to pay up, invoice finance is a critical lifeline for releasing working capital.”
Clearly, the demand for invoice finance is high and growing, but this presents a challenge for would-be lenders: how do you mitigate the very real risks associated with this type of lending?
“SMEs need to put themselves in the shoes of the credit function of the lender and think about what their concerns are going to be about this loan,” says Steve Elsigood, national lead on KPMG’s enterprise financing team. “These risks will range from delayed payments, to an over-reliance on invoice financing, which can go on to affect the long-term cashflow and viability of the business. It is therefore vital that any would-be invoice finance provider has a stringent credit risk process in place to protect its investors and support its borrowers.”
For KPMG’s Elsigood, this is not dissimilar to the approach that many alternative lenders take towards asset-based lending.
“I would actually include invoice finance under the asset-based lending definition,” he says. “Asset-based lending is really using the assets in the balance sheet of a business to lend against. So, invoice finance or invoice discounting is using the trade debtors as opposed to the plant, equipment and even stock that you might otherwise lend against.
“But what has changed in asset-based lending is that the market has become increasingly convoluted and complicated. It’s no longer about four or five mainstream banks with invoice discounting arms – there are various independents, there are challenger banks, there are P2P lending platforms.
“And I think that the key value that debt advisors can bring is a knowledge of that market and an ability to consider the lenders in relation to the particular circumstances of each business and directing the SME that they’re dealing with to the funder that’s best suited to meet their requirements.”
If this description is starting to sound a bit like the classic P2P model, it’s because it effectively is – except for one major difference: while the P2P sector is actively regulated by both the Financial Conduct Authority and trade bodies such as the P2PFA, the invoice finance sector is widely believed to be under-regulated.
In an interview with Peer2Peer Finance News last year, MarketInvoice chief executive Anil Stocker said: “we think that over time, invoice finance should be regulated because it’s a massive market and there are a lot of traditional players who take advantage of the fact it’s not regulated to charge higher fees and put lots of onerous conditions on business users.”
However, one year on, this issue still needs to be addressed. “I can’t speak to where the regulation is going to go,” says MarketInvoice’s Vroobel. “At the moment, MarketInvoice doesn’t fall under the standard regulations of P2P platforms but we do follow the P2PFA guidelines very closely. depending on what you decide to do. For example, if we were to open up to retail investors we would fall under article 36H and we would need to apply for that license.”
For the borrowers, any concerns about regulation or investor risk awareness are completely overshadowed by the benefits offered by invoice finance.
“It’s less easy for someone to rock up at a bank and get an overdraft these days,” says Elsigood. “So, I think invoice discounting and asset lending will continue to be important to SMEs.”
In fact, this growing demand from borrowers may be helping to shape the future of invoice financing. Industry experts say that rates are becoming less important to SME borrowers, who are instead prioritising flexibility and long-term partnerships.
“If you had asked me five years ago, I would have said that rates were the most important thing to borrowers, but I think a lot of businesses have matured more,” says Chirag Shah, founding partner of alternative business finance provider Nucleus Commercial Finance. “Especially with businesses turning over between £5m and £50m. These businesses are looking at lenders and asking: are these lenders going to support our future growth? As I grow, can the lender grow with me? Can the lender be more flexible than what we currently have or what some of the cheaper providers are offering? What are other things the lenders can bring to our party? Historically, I think we are seeing the borrower/ lender relationship change to become more of a partnership.”
The opportunity for future partnerships has never been greater. MarketInvoice has recently teamed up with tech firms such as Xero and Veritas as a way of accelerating its approval processes and making finance available to more businesses.
“Open Banking is really exciting, first as a comparison tool but secondly the customer experience could be fantastic – you go to onboard clients and then they give you their details and you can underwrite them in minutes, not hours,” says Vroobel. “That would massively help customer experience across the industry. And as we scale up, that leads to different options of investors and cheaper funds. With Open Banking, I think we will probably see more collaboration with banks and more partnerships throughout the industry.”
Small- and medium-sized businesses are the backbone of the UK economy, accounting for 99.9 per cent of all private sector firms, according to FSB data as of the start of 2017. As such, the potential for the P2P invoice finance sector is enormous – firms such as Nucleus, Sancus and MarketInvoice have already surpassed their own funding goals by lending £750m, £200m and £2bn, respectively, to UK-based SMEs. The demand for invoice finance is not going away any time soon – and P2P lenders are a vital part of the solution.
This feature appeared in the April issue of Peer2Peer Finance News, now available to read online.