Recruitment finance – What is it and how does it work?
Recruitment agencies generally deal with a diverse body of clients that varies not just in size, but also according to business type and industry. Agencies cannot rely on a steady income stream from these clients, however, as most companies only recruit sporadically. This can at times make it extremely difficult for recruitment agencies to manage their cash flow.
Temporary recruitment, during which the candidate is still on the recruitment firm’s payroll while already working at the client, constitutes an even bigger challenge. Indeed, if client invoices are not paid regularly, the recruitment firm may experience crippling cash flow problems.
Cash flow and recruitment agencies
So, although recruitment agencies are paid significant fees for placing a suitable candidate successfully, many clients only use their services intermittently. This means that they don’t provide an assured and steady income. This makes it really difficult for the agency to maintain a steady and healthy cash flow through the business.
Recruitment finance, or invoice finance, makes it possible for recruitment agencies to meet their own payroll demands while waiting for client invoices to clear.
By creating bridging finance, invoice financing reduces the recruitment agencies administrative burden. It thus makes it easier for the agency to not just weather seasonal fluctuations in work volume and lessens the time needed to handle complex compliance issues.
Invoices are only issued to clients once suitable candidates have been placed successfully, which makes it another key aspect. It creates a long payment cycle, resulting in a waiting period for payment of 30, 60 or even 90 days.
This means that failure by clients to pay timeously can rapidly impact a profitable business negatively. It reduces available capital to meet payment deadlines for permanent and temporary placements and impacts other operating costs as well. This severely hamstrings the recruitment agency’s ability to grow and get their business up to that next level.
The very nature of a recruitment agency’s work can create cash flow problems. Apart from the agency’s usual operating expenses, contractors and temporary staff have to be paid. The recruiter, however, may not get paid by the end customer for 30, 60 or even an eye-watering 90 days! This unavoidably results in a shortfall in cash-flow for agencies, whether big or small.
How does the recruitment industry source its finance?
As many recruiters already have bank accounts, many turn to banks for finance. They approach banks for overdrafts, credit cards and short-term loans to stop up that gaping cash flow hole. This is particularly the case during the start-up years of the firm’s life.
Credit cards and loans are not, however, without risk – defaulting on a loan, or failure to meet monthly credit repayments, can saddle recruiters with high charges. Even worse, it can cause the business to get a poor credit rating, which can be very damaging.
In which way is recruitment finance better?
There are other ways of dealing with this cash flow gap, such as invoice discounting and factoring. A third-party finance provider, called the invoice factor, will advance the recruitment firm 95% of the value of an invoice within 24 hours of that invoice being issued.
The recruiter will therefore have an immediate injection of cash to meet its financial obligations, like paying temporary staff and other operational costs, without waiting for the client to pay that invoice somewhere down the line.
What are the benefits of recruitment finance?
Invoice discounting and factoring are both fast and flexible. In effect, the recruiting agency is using unpaid client invoices to obtain finance to run their business. The factoring money can then be utilized to pay running costs and wages on time.
Basically, the invoice factor advances funds that could have been tied up in unpaid client invoices for months, within 24 hours of those invoices being issued. This way funds are unlocked early to the benefit of the recruitment agency and the brunt of the payment delay is borne by the factoring company instead. This is how recruitment finance works.
How does invoice factoring work?
Factoring works best for recruitment firms that have limited access to funding by a bank and also have invoice values that are somewhat lower. By being advanced up to 95% of the value of the outstanding invoices already issued to clients, they get funds to bridge the gap in their cash flow. Once they have placed a suitable candidate successfully and they’ve issued an invoice to the client, the factor pays them the value of that invoice, minus the factor’s fees.
Included in the factoring agreement is the stipulation that the factoring company will manage the recruiter’s payroll administration (i.e. they will process timesheet information). The factor will also handle credit control on behalf of the recruiter. If it is a small firm, this is advantageous for the recruiter as it frees up resources. It also makes it clear to the recruitment agency’s clients that a factoring facility has been implemented.
Bigger recruitment agencies that have their own established financial procedures, collections processes and credit controls in place, do not use this facility. These functions remain in-house. Clients will therefore not even know that a factor is involved.
The benefits of factoring and invoice discounting are that recruitment agencies get a quick and reliable cash flow injection when they need funds to pay both temporary and permanent placements. It also means that they can cover other operating costs without having to wait 30, 60 or even 90 days for their clients to pay.