With the ever growing and evolving start-up landscape, a very important question among business owners is always raised – “how can my company finance its growth?”
Having met with dozens of young entrepreneurs, I learned that financing information available to new business owners is often incomplete. Contrary to the beliefs of those who enjoy popular TV shows such as Shark Tank and The Profit, giving up equity in exchange for seemingly small dollars (even if Mark Cuban is attached to them) is not always the answer. While it is certainly appealing to be on national TV or to gain powerful investors, giving up a portion of the company’s profits and decision making power can ultimately be very costly, and can arguably be deemed the most expensive form of financing. It has been proven, timeand time again, that a company with a solid business plan and leadership can still succeed without divesting ownership.
When I first joined the world of commercial finance, I was surprised with how little of my schooling in business and law touched on financing for small and mid-size businesses which, according to recent years’ studies published by the U.S. Small Business Administration, amounting to about one-third of the US economy’s exports. Even more surprising was that my lack of exposure was not an idle experience, but rather a sentiment shared by many in the commercial finance industry – an expansive network comprised of attorneys, accountants, bankers, and other financial services professionals. So if schools don’t teach how to finance growth, who does?
Some commercial finance professionals take it upon themselves to educate business owners on the financing options available to them. Not only does it benefit everyone involved, but properly advising clients is also the most ethical and professional thing to do. Taking advantage of this education has benefits that surpass the “textbook” definitions, and include experience-proven solutions as well as a connection to other professionals in the industry who can help a borrower find a custom tailored financing option.
If your company is not quite yet “bankable” – meaning, it does not yet have several years of financials or the required profit margins and other financial ratios that bank would like to see– your company may still have valuable assets which it can finance, and a professional specializing in one of the following financing products may help you find the right answers depending on your company’s assets:
How It Works
If your company is selling to or servicing customers who have solid credit, on terms of Net-30 to Net-90, then it has a valuable asset – accounts receivable. There are factoring companies (or “factors”) that would be happy to lend you up to 80% on the invoice in exchange for flat or tiered commission. In addition, some of these companies may also credit-insure your receivables, such that in the event of a customer bankruptcy or insolvency, you will still collect on those receivables, and they will even do the collections for you. This flexible form of financing can grow as your company grows, and does not require giving up valuable equity.
Purchase Order Financing
If your company has purchase orders from reputable customers, then it has a valuable asset. PO financing companies may be able to help by advancing you against these orders. Generally, PO financing companies work hand in hand with factors, so that production is financed and paid off seamlessly.
Letters of Credit
This is another form of financing purchase orders, which entails issuing a letter of credit – an “LC”, or a guarantee of payment - to your company’s overseas or domestic factory/supplier, promising to pay a stated amount if certain conditions are met by the factory. This service may be offered by factors & PO financing companies via their banks, as well as directly by banks. When your company’s factory produces and ships the goods, it will have to present satisfactory documents to get paid. Some factories may even be able to borrow money against the LC to help them finance their operation.
If your company has inventory, then it has an asset against which certain lenders are willing to advance funds. While the advance rates on inventory are not as high as they may be on receivables (generally averaging at about 50%), in part accounting for the higher risk and costs of liquidation, it is still a helpful financing tool when your company must maintain a certain level of inventory to satisfy reorders that require fast turnaround.
Asset Based Lending
Accounts Receivable, Inventory, Real Estate, Other Balance Sheet Assets
This form of financing resembles a line of credit, which is secured by any combination of inventory, receivables, real estate, and other balance sheet assets. Unlike factoring, asset based lending, or “ABL”, does not credit-insure receivables, but it also does not require notifying customers that your accounts receivables have been sold.
While the above is merely a summary chart of a few of the options available, there are yet still other financing options and nuances to be aware of.
Article by: Elina Balagula former General Counsel & Business Development Officer at The Hedaya Capital Group, Inc.