What is Local bill Discounting
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The terms ‘invoice discounting’ or ‘bills discounting’ or ‘purchase of bills’ are all same. Invoice discounting is a source of working capital finance for the seller of goods on credit. Bill discounting is an arrangement whereby the seller recovers an amount of sales bill from the financial intermediaries before it is due. Such intermediaries charge a fee for the service. From the other side, it is a business vertical for all types of financial intermediaries such as banks, financial institutions, NBFCs, etc.
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Local Bill Discounting
Local Bill Discounting is an arrangement whereby the seller recovers an amount of sales bill from the financial intermediaries before it is due. Such intermediaries charge a fee for the service. The process of bill discounting is simple and logical. The seller sells the goods on credit and raises invoice on the buyer Domestically or locally.
How to Local Bill Discounting
Bill Discounting or Invoice Discounting Process/Procedure
The process of bill discounting is simple and logical.
- The seller sells the goods on credit and raises invoice on the buyer.
- The buyer accepts the invoice. By accepting, the buyer acknowledges paying on the due date.
- Seller approaches the financing company to discount it.
- The financing company assures itself of the legitimacy of the bill and creditworthiness of the buyer.
- The financing company avails the fund to the seller after deducting appropriate margin, discount and fee as per the norms.
- The seller gets the funds and uses it for further business.
- On the due date of payment, the financial intermediary or the seller collects the money from the buyer. ‘Who will collect the money’ depends on the agreement between the seller and financing company.
As an exporter, you want an assurance that you will get paid when you ship goods to an overseas buyer. To facilitate the payment for an export shipment, the buyer goes to his bank and establishes a letter of credit. Your bank confirms with the buyer’s bank that the letter is valid and then you can ship your goods with the knowledge that you will get paid. When all of the terms of your deal have been met, your bank collects on the letter of credit and passes the money on to your exporting business.
As the seller, to get paid for an order you must present to your bank the required documents to verify your order has been moved to the customer. Your bank then forwards the documents to the customer’s bank that holds the letter of invoice and when that bank verifies the documents, the money will be transferred to your bank and then paid out to your business.
No Need to Incur Debt
As noted earlier, bill or invoice discounting enables business owners to fund working capital needs without increasing liabilities. The business owner can opt for this option to avail cash quickly by releasing the funds locked in unpaid invoices or bills. He can even meet working capital needs simply by converting current assets into liquid assets.
Improve Cash Flow Position
Often small businesses have to sell goods in credit to expand customer base. When they sell goods on credit, it becomes difficult for entrepreneurs to maintain positive cash flow. The invoice discounting services provided by lending institutions help entrepreneurs to improve cash flow quickly. They can even shorten the working capital cycles by converting unpaid invoices into cash.
Help Businesses to Sell Goods on Credit
Many enterprises explore ways to credit sales to maintain a positive cash flow position. But small businesses cannot acquire new customers and retain existing customers in the long run without combining cash and credit sales. The bill discounting services make it easier for enterprises to sell goods in credit by liquidating current assets and boosting cash flow.
Access Funds Quickly
No entrepreneur can avail conventional working capital loans without meeting the eligibility criteria set by the lending institutions. Many lending institutions even require additional time to process and disburse small business loans. Hence, many business owners opt for bill discounting to avail funds without lengthy approval process. A number of NBFCs even enables borrowers to avail cash in 72 hours by discounting their unpaid invoices.
Reduces Profit Margin
The lending institutions discount bills or invoices by charging a fee. The fee normally includes interest charges, administrative expenses and maintenance expenses. The percentage of fee or discount also differs from one lender to another. Hence, the business owners have to sacrifice a percentage of the bill value. The fees charges by the lender will even impact the business’s profitability.
All Bills Cannot Be Discounted
An entrepreneur cannot avail funds by discounting all his unpaid bills or invoices. Many lending institutions discount only commercial bill. Also, they evaluate the bills or invoices based on a number of parameters before providing funds. Hence, entrepreneur cannot rely on bill discounting as a consistent or long-term working capital funding solution.
Not Available to New Businesses
Both banks and NBFCs provide bill discounting services only to existing customers or established enterprises. Some lending institutions even provide discount bills only if the business is generating profit. Hence, new business owners may not fund working capital needs through bill discounting service. Also, the fees charged by the lending institutions will impact their profitability in the short run.
Reduce Available Collateral
Most banks do not provide collateral free business loans to small business owners. They require the borrowers to use their personal and business assets as collateral to avail credit. Each time a business owner discounts an invoice or bill, his working capital declines accordingly. Hence, the business owner may find it challenging to avail other working capital loans.
On the whole, bill or invoice discounting help business owners to fund working capital needs without increasing liabilities. They can avail the invoice discounting services provided by various lending institutions to avail funds before the due date of the bill or invoice. However, the percentage of discount changed by individual lenders differs. Likewise, the lenders require the business owners to meet a set of eligibility criteria to avail bill discounting.