As a value investor, I tend to go off the beaten path in search for value. Recently, I came across an interesting report from Cambridge University’s Judge Business School titled “Breaking New Ground,” which studied alternative financing in the Americas in April.
It had contacted all the leading alternative financing platforms on the different strains of alternative financing.
The neglected and growing field of invoice trading
The professors provided a working definition of all 10 business online alternative financing models as seen below.
I guess that we are familiar with how Lending Club (LC) provides marketplace consumer and business lending and how Kickstarter provides reward-based crowd funding for awesome products such as Oculus Rift and Pebble.
Cambridge found out that marketplace lending for consumers is indeed the most prevalent in the U.S., while invoice trading had the least market share. However, beneath this negligible market share, we see that invoice trading has grown from $800,000 in 2013 to $32.63 million in 2015. The growth from 2014 to 2015 is an impressive 265% from $8.93 million. Overall, this represents an impressive compounded average growth rate of 48.69%.
The expert –Â Vantage Strategy
The invoice trading market is also highly coveted by institutional investors as they funded 83% of the funds in the U.S. As a value investor, I wanted to find out about the appeal of invoice trading from a knowledgeable outsider.
In my search, I discovered Vantage Strategy, which specializes in brokering invoices for different industries:
"An entrepreneur without funding is a musician without an instrument; raising money is all about timing; you need funding to get traction, and you need traction to get funding.”
I found this quote to be true about the importance of funding for any businessman. On the surface, I understand the businesses might have to forgo expansion plans when their funds are locked up in the invoice for the typical 30 to 90 days. Businesses would want to sell their invoices for immediate cash upfront. However, the big question for me is what would incentivize the investors to part with their cash.
This is an important point because if we can understand what attracts institutional investors, then ordinary investors like us would have a more level playing field. Hence, I contacted Vantage Strategy and was fortunate to pick the brains of Managing Director Garrett Oh. I present some of the most pertinent insights from our conversation.
The interview
Question: Hi, Garrett. Thanks for making time for the audience of GuruFocus. I understand that your forte is in invoice trading or invoice discounting as it is known in Singapore. Can you explain what makes invoice trading attractive to institutional investors?
Answer: The introduction of technology to invoice discounting is the main innovative factor that attracts institutional investors to this field. Every business issues invoice to their clients which open up a large potential field of assets which can be aggregated efficiently by online platforms.
There are some platforms that split up each invoice for invoices to own a small slice of it. This is a risk mitigation technique and they usually offer visibility on the company’s invoice and credit worthiness to investors.
For institutional investors, this gives them the market depth to diversify across industries and also to reduce their cash drag. A good online system would be able to deploy their cash quickly and automatically according to their preselected criteria. Another important factor is credit assessment because invoice financing defaults can vary.
A reputable online invoice discounting vendor would be supported by a team of prominent credit analysts which extracts the credit profile of both the business and its clients from leading credit analysis agencies such as Dun & Bradstreet, DP Information and Experian. This gives the institutional investors peace of mind, and it helps to set the appropriate price of credit for every single piece of invoice.
Question: It seems that technology and good credit assessment had turned invoices into a new asset class for institutional investors. Do you think that public accredited investors can participate in this new asset class?
Answer: Yes, certainly. While institutional investors might be able to reduce the cost from the online marketplace due to the size of their funds, a good online marketplace should not discriminate the allocation of funds between institutional and accredited investors.
Accredited investors should do their due diligence before putting their funds into the online marketplace. They should assess their track record, credit assessment process, responsiveness to your queries, the ease of use of their technology platform and the overall reputation of the business.
In fact, this can be a good source of income as invoices discounting can yield between 11% to 25% per annum for investors. Businesses are willing to pay such premium as their margin for each deal size are typically between 30% and 50%, and they don’t have to stretch their financing period beyond the time taken for their invoices to get paid.
Conclusion
I thanked Garrett for the insights he provided in the interview. In today’s low-interest rates environment, it is good to know that there is an asset class that can yield such attractive interest rates.
Invoice investing can be seen as another asset class compared to bonds, shares, derivatives, and options investing and if it is done properly, it would be helpful for retirees to fund their lifestyle. Given that invoices are not a mainstream investment tool, this can be a valuable find for us.
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