How Alternative Financing Can Help
To help cope with cash flow challenges, more small and mid-sized businesses are turning to alternative financing vehicles. These are creative financing solutions for companies that don't qualify for traditional bank loans, but need a financial boost to help manage their cash flow cycle. Start-up businesses, companies experiencing rapid growth as well as companies in cash flow crisis and those with financial ratios that don't meet a bank's requirements are often especially good candidates for alternative financing.
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With single invoice financing, businesses sell their outstanding accounts receivable to a commercial finance company (or factor) at a discount, usually
between 1.5 and 5 percent, which becomes responsible for managing and collecting the receivable. The business usually receives from 70-80 percent of the value of the receivable when selling it to the factor, and the balance (less the discount, which represents the factors fee) when the factor collects the receivable.
Debtor financing is where a business submits all of its invoices to the commercial finance company, which establishes a borrowing base against which the company can borrow money. The qualified receivables serve as collateral for the loan.
The borrowing base is usually 70-80 percent of the value of the qualified receivables. To be qualified, a receivable must be less than 90 days old and the underlying business must be deemed creditworthy by the finance company, among other criteria. The finance company will charge a collateral management fee (usually 1 to 3 percent of the outstanding amount) and assess interest on the amount of money borrowed. Real estate security is not required.
The loan is secured by business assets other than your debtors, such as equipment, real estate and inventory. Unlike debtor finance, the business manages and collects its own receivables. Interest is charged on the amount of money borrowed and certain fees are also assessed by the finance company.
Asset security is not required. These loans are often used to assist with short term needs and are repaid weekly over 3 to 12 months. Approval and funding is very fast. Unsecured business loans are generally expensive.
A business overdraft is a line of credit to a set approved amount that covers your transactions when your trading account drops below zero. Overdrafts are subject to bank style credit criteria and generally have lending covenants attached. Overdrafts don’t offer the level of flexibility that either a rapidly growing business or conversely a business in cash flow crisis may need.
Most business failures occur because the company lacked working capital, not because it didn't have a good product or service.
Unfortunately, this problem is currently magnified for many small businesses dealing with ever-longer payment terms from their large customers. Alternative financing is one possible solution to this common cash flow problem. Some businesses shy away from alternative financing vehicles, due either to a lack of knowledge or understanding of them or because they believe such financing vehicles are too expensive. However, alternative financing is not hard to understand— ReGroup Solutions can clearly explain how these techniques work and the pros and cons they may offer your company.
As for cost, it's really a matter of perspective. You have to ask whether alternative financing is too expensive compared to the alternatives? If you're in danger of running out of cash while you wait to get paid by large customers and you don't qualify for a bank loan or line of credit, then the alternative could be bankruptcy. So, while alternative funding does tend to be more expensive than bank financing, if this financing isn't an option for you, then you must compare the cost to possibly going out of business. ReGroup Solutions can help you to assess smart options and intelligent finance structures.