By Loic Hennocq, General Manager, United Arab Emirates at Incomlend

An SME (small and medium-sized enterprises) is defined as an organisation that has less than 250 employees. Further sub-divisions define a small business as less than 50 employees while a micro business is less than 10. More than 99.9 per cent of all UK businesses are SMEs, representing over five and a half million businesses according to the Federation of Small Businesses.

Last year, roughly 65 per cent of the UK’s SMEs were profitable. At 73 per cent, SMEs in the agriculture sector were shown to be the most likely to have made a profit that year. This was followed by property and business services and construction at 70 per cent. Conversely and perhaps unsurprisingly due to the continuing threats to health and safety posed by COVID-19, only 45 per cent of hotel and restaurant SMEs made a profit in 2021. In Europe, the two largest markets for factoring and commercial finance in 2021 were France and the United Kingdom.

The UK Government has launched a range of initiatives since 2010 to increase and improve opportunities for SMEs. In 2015 it increased its target to reach SMEs through either direct spend or the supply chain from 25 per cent to 33 per cent by the year 2022. In September 2018, it introduced draft legislation that was aimed at making it easier for small businesses to access invoice financing. The Government also included it in its recovery loan and COVID-19 business interruption loan schemes.

Invoice Finance

Against a backdrop of global economic uncertainty, an unprecedented rise in the rate of inflation and the Russia-Ukraine conflict, many UK SMEs feel that ‘traditional’ institutions are not meeting their financial requirements. This expedites the need to find alternative options. I believe invoice trading is one of the most – if not the most – viable of these as it connects private investors, as well as importers and exporters. Suppliers can sell their export invoices at a discounted price to investors/funders. Invoices are then paid at a later date in accordance with the payment terms by the clients of the suppliers (buyers) to the investors/ funders. The profit the investor makes is the difference between the full value of the invoice at payment by the buyers and its discounted value which is the investment amount.

Investors can hasten their capital returns while importers can expand payment terms and minimise the risk of disruption to the supply chain. Exporters can also get paid early for supplied services and goods. This results in a narrowing of the trade finance gap which has reached critical levels both domestically and internationally.

Trade Deficit

The UK’s trade deficit is due to the fact that its imports tend to outweigh its exports. In 2021 a shortfall of £156 billion on trade in goods was counterbalanced by a trade in services excess of £127 billion. This meant the total trade deficit last year was £29 billion. The trade deficit with all countries was £29.8 billion in the second quarter (April to June) of this year compared with a £33.4 billion deficit in the first quarter of 2022 (January to March).

Benefits of Invoice Trading

The business of invoice financing has boomed since COVID-19. More and more UK SMEs have discovered its value and importance as a source of alternative funding in order to keep businesses afloat. In the current economic climate, small businesses in the UK can benefit from invoice financing in several ways:

• It gives more flexibility if faced with a lack of support from banking facilities providers.
• By resolving cash flow issues from long payment terms, SMEs can invest sooner and expand activities into other areas such as marketing in order to gain more customers.
• Loans provided by banks are recourse based. Invoice financing is credit risk based on the buyer and relies on past trade history.
• It is faster to obtain invoice financing via technology and analysis when compared to other standard institutions. It is also more automated.
• For SMEs working with bigger buyers, invoice financing gives them more flexibility as

they are less dependent on the buyer’s repayment timing. Whatever the buyer’s payment terms are, it does not affect the supplier.

• Factories prioritise production based on due dates. As the supplier is paid as soon as the invoice is submitted to the invoice factoring provider, it gives the buyer the opportunity to ensure the priority of their order to the supplier.
• Invoice financing generally enjoys a shorter approval process than with banks as invoice factoring providers better understand the economic challenges faced by small businesses.
• Evaluation of the buyer risk is critical and SMEs often do not have the capability to assess this. Invoice factoring providers can evaluate this and remove the risk of non-payment on the buyer’s part.

It is not solely SMEs who can benefit from invoice trading. Investors can too, as they can enjoy an accelerated compound return and access an alternative asset class to diversify their portfolios. They can also experience stable returns uncorrelated to financial markets and protect their investments against debtors’ credit risk with credit insurance. Also, with an asset’s short investment time, investors have the opportunity to rapidly rotate their capital.

How SMEs can choose the right invoice financing provider

I have outlined what I believe to be the multiple benefits of invoice financing above, but a factor that some SMEs may overlook once they have decided to take that particular financial route is how to find the right provider for their business. There are a number of invoicing providers currently operating in the UK, so choosing the most suitable is certainly not a decision to be taken lightly. In fact, the invoice finance industry is not currently regulated by the FCA (Financial Conduct Authority) in the UK. It is therefore well worth checking if the lender is a member of UK Finance. Invoice finance providers who belong to this association are obliged to follow a code of conduct and standards framework. If a broker is involved in order to find the best deal on the market, check if they are a member of the National Association of Commercial Finance Brokers (NACFB). If so, they must adhere to its code of practice.

Exercising due diligence and feasibility in the beginning can reap rewards as well as security in the end. Finding an experienced, trustworthy and recognised firm with prior experience in a particular geographical area, industry, and market is a good starting point. For sellers, I would recommend a financing solution that is non-recourse. Companies following this policy can ensure that SMEs do not experience a burden of stress should the buyer become the bad debt. For buyers, it is best to assess providers that may offer an extension on terms of payment.

Recession and the Economy

The main findings of the OECD’s (Organisation for Economic Co-operation and Development) Economic Surveys Executive Summary (August 2022) show that the UK economy had recovered to pre-pandemic levels by the end of 2021. However, the rising cost of living and high energy prices due to Russia’s invasion of Ukraine are decelerating growth. The UK leaving the EU Single Market and COVID-19 have also had an influence on trade. Further, GDP (Gross Domestic Product) is forecast to increase by 3.6 per cent in 2022.

According to the UK’s Office for National Office Statistics, business investment in the UK increased by 3.8 per cent in the second quarter (April to June) of 2022. This is an increase of 5 per cent when compared to the same quarter in 2021.

Despite such relatively hopeful findings, the British Chambers of Commerce (BCC) expects the UK economy to plummet into recession before the end of this year, with its predicted Consumer Price Index (CPI) inflation rate of 14 per cent. This is echoed by the Bank of England. Last month its Monetary Policy Committee (MPC) raised its interest rates to 1.75 per cent, the highest rate of increase since 1995. It expected inflation to peak at a slightly lower rate than the BCC’s prediction (13.3 per cent rather than 14 per cent).

Newly elected Prime Minister Liz Truss must urgently introduce new policies to combat such extreme inflationary increases as soon as possible if a recession is to be avoided and UK SMEs are allowed to survive.

The future of invoice financing

Invoice financing is heavily dependent on technology platforms that are completely reliable as well as user-friendly. Automation is integral to this as it aids the onboarding of clients as well as transaction and documentary processing. Business can also be made possible with communication tools that are not email based. Application Programming Interface (API) integration using flexible file formats allows clients to merge the flow of data with their own ERPs (Enterprise Resource Planning). Process customisation means a provider can adapt to the client’s criteria as well as its internal control policies.

The UK is currently in a transition period in relation to its core payment systems. Central to this is the NPA (New Payments Architecture). This is designed to be innovative, increase choice, and enhance payment services. The intention is to provide an infrastructure for digital retail payments that will ensure the UK is at the front line of payments development. For interested financial institutions, the NPA certification testing window will open in April 2023. The expectation is that the NPA scheme will go live in the middle of 2024. The PSR (Payment Systems Regulator) is responsible for overseeing the development and delivery of the UK’s NPA.

The UK government’s SME Finance Charter offers five pledges from finance providers and banks that have been approved and are overseen by the British Finance Council. The charter is a voluntary agreement and includes invoice finance. It was initially launched in October 2019 to help SMEs manage the repercussions of Brexit. Of course, much has changed in the interim. Challenges posed to SMEs such as disruptions to the supply chain, COVID-19 and rising costs meant the charter was updated in May 2022.

The five pledges are that banks and providers:

• Are open for business and are ready to lend
• Will help them build back better after COVID-19
• Will support their application and signpost other options if needed
• Will treat them fairly at all times
• Will work with the government-owned British Business Bank (BBB) to support SMEs

The full effects of both the New Payments Architecture and the government’s SME Finance Charter on invoice financing remain to be seen. Because the latter tend to charge lower rates of interest than banks, and UK SMEs have embraced it so successfully as an option in recent years, it is likely that invoice financing will continue to be central to UK SMEs’ survival and ultimate success for the foreseeable future.

About author:

Loic Hennocq is the General Manager in the United Arab Emirates for Incomlend. He has been working with Incomlend for 5 years,   He has a vast amount of experience in international division management spanning over twenty years. Throughout this time, he worked in leading digital solutions in sales and marketing across Asia, the Middle East and Europe. He is helping lead and grow the company’s presence in Dubai and is working on engaging more SMEs that are currently being overlooked by traditional financial institutions.