Before the Bank: Options For Financing Your Business
I always tell small business owners that if they can secure bank financing to meet their working capital needs, by all means, go for it. Banks have their purpose, but as many small- to mid-size companies have discovered, they aren’t always in a position to lend.
That’s where non-bank lenders come in. They offer options such as factoring and asset-based lending, which frequently allow companies to say “yes” to new opportunities that wouldn’t otherwise be possible.
Factoring refers to the selling of a company’s account receivables to a factoring company to receive immediate cash, typically 70%-90% of the invoice amount. The remainder of the money, minus a small factoring fee, is paid to the business once the customer invoice (receivable) has been paid in full. Factoring can work for a variety of businesses, including manufacturing, service, distribution, and wholesale.
For companies with new sales orders, it is a way for businesses to fund their working capital needs. Service businesses with heavy payroll needs are perfect candidates for factoring because it bridges the gap between when services are rendered and when customers pay their bills. In addition, factors provide customer credit monitoring, receivable management, and even billing and payroll services for their clients. Factoring relies on the customer’s credit and not on the financial history of the business, which makes it ideal for businesses that lack a financial track record.
The other solution is asset-based lending, which is a revolving line of credit based on various asset classes such as accounts receivable, inventory, equipment, or real estate. Asset-based lending is often viewed as a stepping stone to traditional bank financing, with loans focused on the value of the asset and not solely on a company’s cash flow.
Both solutions are designed to help companies take on new business or larger opportunities from existing customers, to expand product and service offerings, establish global operations, and transition from past losses to current profits.
When credit is tight, the reality of paying a bit more for access to capital is much more palatable, especially when the alternative is shuttered businesses, missed opportunities for new business, and the inevitable layoff of skilled and valued staff. Frustrated entrepreneurs unsuccessful in their efforts to obtain working capital are welcoming the opportunity to obtain financing through factoring and asset-based lending, especially as they research its history and find credibility and flexibility. And most bankers are supporters as well because they can refer business to factor and ABL lenders that they cannot help today, but would like to in the future.
Here’s a perfect example –
A supplier of industrial materials with international sources needed working capital for expansion. He went to his banker, but was turned away because he did not fit into their lending guidelines.
The banker referred the company to a non-bank lender, who set up an asset-based loan structure, which created more credit availability and focused on the value of assets vs. solely on past financial performance. The lender then went to the bank, asking them to participate and together, they worked out a deal that used funds from both lending sources. The loan was managed and monitored by the non-bank lender and the bank was able to establish the relationship immediately.
Another example involves a newly-launched service company that needed funding for payroll. The business was selling personnel services to high-quality customers, but lacked the track record to qualify for bank financing. The business was able to factor its receivables to fund payroll and then transfer into a line of credit with the same institution in order to reduce costs as the company grew its business.
Examples like these allow banks to maintain the client relationship, all while being able to still offer more traditional services like credit cards and business checking accounts. Business owners shouldn’t be concerned that non-bank lenders will interfere with bank relationships and future lending opportunities.
Credible firms, which offer complementary financing products that fall under an asset-based lending umbrella, don’t compete with banks, they partner with them. Accordingly, relationships between traditional banks and non-bank financing firms are mutually respectful. This makes non-bank lending a win-win for both banks and businesses.
