How concentration limits impact business performance
At face value, invoice finance is straightforward – you engage with a financier who release an agreed percentage of the invoice value upfront, and then pay the remaining outstanding amount (minus fees) once the invoice has been settled by your end client.
However, such is life, things are rarely so straightforward! Financiers will place constraints on a facility in part to safeguard themselves and in part to maximise revenue. One of the key restrictions agencies face is concentration limits.
Concentration limits can play a major role in terms of how much cash your invoice finance facility can generate. This article explains why it’s so important for agencies to understand the impact of concentration limits.
What is a concentration limit?
A concentration limit limits the amount of exposure a lender has to a single debtor on your ledger. Typically, concentration limits will not be an issue for many businesses who have a good spread of customers. However, business is rarely so straightforward.
For example, if your concentration limit is 40% and your total ledger is £200,000 then the lender will only consider £80,000 of funding with any single debtor.
The concentration level can change if you make more placements with one client, if a client does not pay within terms or if your other clients make early payment.
Example: agency placing with a client on 90% drawdown with 40% concentration.
Agency invoices 200k
- Total ledger = £200,000 (as this is all with one customer so the concentration limit kicks in)
- Eligible debt = £200,000 x 40% = £80,000
- Availability = Eligible debt (£80k) x 90% = £72,000
This has a big impact on your business:
- Cash flow will be drastically reduced. How will you fund the placements?
- If the project ramps-up, will you be able to work with your client?
- Will relationship become strained if you cannot work with client?
- Will you leave the door open to competitors if you cannot meet client requirements?
Why are concentration limits applied?
Ultimately, it comes down to risk. Using the idiom ‘don’t put all your eggs in one basket’, this is a view that many financiers take. The ideal scenario for a financier is an even distribution of debt. Frustratingly, no matter how credit worthy the client is, if concentration limits kick in, your ability to do business at the agreed level is affected.
Take time to evaluate providers
It’s understandable when recruitment business owners are pressured from all angles that the fastest and easiest solution is the best at that moment in time. However, if you do have the opportunity to compare finance products in advance, it really makes a difference to your bottom line.
When considering an invoice finance option for your company you near to bear in mind concentration limits and opt for a financier that guarantees cashflow without restriction.
Sonovate for instance, provides 100% of cashflow the week after timesheet approval, with no concentration limits and no further restrictions on cashflow.
This article was first published on 15 Jul 2014 and updated 26 Jul 2019