How To Use Asset Based Lending To Get Your Cash Flowing

It comes as a bit of a shock to many first-time owners of small to mid-sized businesses, that they will often have to wait a substantial amount of time for payment from their customer for a product they’ve sold or services rendered. Delayed payments due to uncollected invoices can make it difficult to make payroll, buy additional supplies for the next project, pay monthly operating expenses, and taxes. Waiting for outstanding payments to come in can stall business growth.

The average amount of time it takes for a vendor to receive payment in North America currently sits at 73 days and some big box stores take even longer!

Let’s put this in perspective… Many large companies will make an initial “small order” of 500,000 units and then the next will be 1,000,000. To fill such an order, the business must be able to pay for supplies, equipment, and personnel to get the order together on top of regularly occurring daily, weekly, and monthly expenses like payroll and taxes.

This type of order can be make-or-break a small to mid-sized business. How can you accept such an order, in good faith, without having adequate cash on hand and without going bankrupt while waiting (possibly months) for the payment to come in?

This is where Asset Based Lending Can Save the Deal...

Asset Based Lending, as the name implies, is based on assets, usually using accounts receivable, inventory, or equipment as collateral. In the case of accounts receivable, business owners put a non-performing asset up as the collateral to gain access to money now.

For a small or fast-growing business, securing an asset-based financing arrangement or loan should be fairly easy if your company has decent financial statements, solid reporting systems, commonly sold inventory, and, most importantly, creditworthy customers who have a track record of paying their bills. A lender will likely ask for your top 5 customers to check them against a proprietary database of credit-worthy customers. An A/R Aging Report will usually be required; it simply shows a client’s outstanding invoices not paid within 90 days.

Asset based lenders will advance funds based on an agreed percentage of the secured assets' value. Eligible assets typically include receivables (outstanding invoices), finished inventory, or equipment owned outright (with no lien.)

Is Asset-Based Lending a Loan or Not?

While both “accounts receivable financing” and a “revolving line of credit” fall under the same umbrella term, “Asset Based Lending,” one is a loan and the other is not. Accounts Receivable financing (also known as Factoring or Invoice Factoring) is not a loan; it is the purchase of a business’ accounts receivable at a discount for immediate cash. A Revolving Line of Credit is an asset-based loan. There are slightly different requirements and benefits for each, so which option makes the most sense depends on the particular situation of your business.

What are the benefits of Asset Based Lending?

Asset-based lending can provide a critical source of capital for companies that are rapidly growing, highly leveraged, in the midst of a turnaround, or undercapitalized. A company may simply need an infusion of cash to get over a financial hump or prevent growth from hitting a plateau.

This type of financing is especially well-suited for manufacturers, distributors, and business service companies with a leveraged balance sheet because their seasonal needs and industry cycles can often impede cash flow.

Challenged credit is not an insurmountable obstacle in asset based lending. Personal credit can be affected by divorce, medical situations, or the loss of a job in the household; these are all commonly occurring struggles that can affect anyone. There’s even a work around with tax liens. The Accounts Receivables can be leveraged in a subordination agreement with the IRS to help a business owner get back on track (with the factoring company as the first lienholder on the invoices in question.)

What are the drawbacks of Asset Based Lending?

Securing financing is based on the quality of the receivables. Not all outstanding invoices are eligible. Commercial lenders will use an AR Aging Report (a spreadsheet that shows the number of days an invoice is outstanding) to also determine the number of dollars a potential client has outstanding.  Companies who pay in less than 60 days and/or have strong credit would more likely be considered credit-worthy than an invoice owed by a small company with no or poor credit who pays later than the industry average.

You may be required to have your customers send payments directly to the finance company, which puts a third party in control of your company’s receivables.

Lastly, an asset based loan's rate may be higher than a bank's, but considering the overall picture, there are also benefits to using an asset based loan. Banks normally have covenants their customers will have to abide by, will do random audits to ensure their customer is on the right path in growing their company, and will also normally ask for a 20% down payment for a loan... which means this higher rate is more of a tradeoff than a downside.

What exactly is Accounts Receivable Financing and why is not a Loan?

As we mentioned above, this type of financing comes by way of selling accounts receivable for immediate cash. This works to the benefit of all parties because accounts receivables are a “non-performing asset.” Basically, these outstanding invoices sitting on the asset side of your balance sheet have value, but they aren’t helping your cash flow now. By selling your accounts receivable you pay a small fee for the service and convert your non-performing asset into immediate cash that is available to work for you now.

Have you considered a Revolving Line Of Credit?

A revolving line of credit can be a great finance tool to stabilize your cash flow while you wait the 30-60 (or more) days to get paid from your customers. You can access this money when you need it and pay off what you borrowed when your customer pays you. Your available line of credit increases each time you make a payment.

This is a true revolving line of credit where you retain ownership of your invoices and your customers are not contacted for verification purposes. In this non-notified type of asset based loan, your invoices are used as collateral and not purchased. With this type of credit line, you can borrow against the entire balance, rather than the amount of each individual invoice as they occur.

This type of credit works across many industries. We work best with:

• Government Suppliers
• Transportation
• Subcontractors
• Manufacturing
• Business Services

We can help you find the cash flow solution that best fits your situation. Call us at (817) 479-3602 or schedule a call at https://www.bentwoodfinancial.com/contact

*The content of this page is for informational purposes only and is not intended as an offer or solicitation for the sale of any financial product or service, nor to offer any tax, legal, or financial advice. Be sure to consult your own accountant or tax advisor regarding the tax consequences of your leasing and financing transactions.*