Every so often, clients want to factor an invoice that has not yet been fulfilled. Basically, the invoice is for work that is about to begin or products that will be delivered soon. These invoices are commonly referred to as pre-delivery invoices. Unfortunately, these invoices cannot be factored.
This article explains why factoring companies cannot finance these invoices. It also provides a way to address the situation. We cover:
- What is a pre-delivery invoice?
- Why can’t pre-delivery invoices be financed?
- One possible solution
- Factoring verification
1. What is a pre-delivery invoice?
A pre-delivery invoice is an invoice for a product or service that has not yet been fulfilled. These invoices are issued by companies to their customer at the start of a project before any work is done. Usually, pre-delivery invoices fall under one of two categories:
a) No product delivery or work done
This category is self-explanatory. No product or work has been delivered to the client yet.
b) Partial delivery
These invoices reflect situations in which the contract is partially fulfilled. Basically, some work has been done, or some product has been delivered. However, further work (or products) must be delivered before the project is completed.
Some contracts allow suppliers to invoice for partial work or products. Often, contracts are worded so that they pay after the invoice has been fulfilled. From a financing perspective, these invoices are more complex since payment depends on the contract terms with the customer.
2. What can’t pre-delivery invoices be financed?
A factoring company finances invoices by purchasing the client’s financial rights to the receivable. This transaction entitles the factoring company to the proceeds of the invoice. In exchange, the client gets an immediate payment from the factor. Learn more by reading “What is Factoring?” and “How Does Invoice Factoring Work?”
Now, let’s examine a transaction with a pre-delivery invoice from the factoring company’s point of view. We will use the two categories from the previous section.
a) No product delivery or work done
An invoice that has not been fulfilled does not usually entitle the client to any payment. The company won’t be able to ask for payment until the invoice is fulfilled and the customer inspects the results.
Unfortunately, a factoring company cannot finance an invoice with the expectation that its client will fulfill the work. The risk is too high. The main concern is that the company could fulfill the invoice only to have the invoice disputed by the customer once the work is delivered. This situation would leave the factor unable to recover payment and in the middle of a dispute.
b) Partial delivery
In general, an invoice that has been partially fulfilled cannot be financed for the same reasons as the previous case. There is one exception. Some contracts are written to allow companies to present an invoice for partial fulfillment and get paid. This practice is common in some industries, such as construction and consulting. In some cases, these invoices can be factored if the finance company can get comfortable with the transaction risk.
3. One possible solution
If you are faced with this problem, the best solution is to negotiate with your client for terms that allow you to invoice in stages. You can invoice for products or work delivered up to a specific point. These terms enable you to invoice and get paid for partial fulfillment. Consequently, you create an invoice that can usually be factored.
This strategy requires your customer to agree to a new billing schedule, which can be difficult if the project has already started. Ideally, you want to forecast your cash flow needs and negotiate a payment schedule before the project begins.
4. Verifications
Factoring companies usually verify invoices before financing them. Verifications help ensure that the invoice is accurate and not subject to a dispute. There are several ways a factor can verify an invoice. It usually depends on your customer’s setup.
The most common way to verify invoices is to log into your customer’s vendor portal. Alternatively, the factor can send an email to your customer’s accounts payable contact. Lastly, they can verify invoices by calling the accounts payable department.
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