Your business is growing, cash flow is tight and you’re wondering when that next big receivable is coming in to cover expenses. Does that sound about right?
In a perfect world, you would have working capital for your business before you get in this situation, not after. Here are three ways to do it.
- Go to your bank and obtain a line of credit through a conventional lending or SBA lending program. Banks provide lines of credit for timing differences between when you collect your AR and when you have to pay expenses. There’s typically a 30 day payout requirement. They don’t intend the loan to be permanent. SBA can provide a permanent working capital loan through their 7a loan program (amortized over up to 10 years) or through the SBA cap line, a line of credit for up to a 7 year term, (4 years revolving and three years amortizing). Either program may be best for you, but talk to your banker about it or a business advisor if you don’t feel like you have a banker.
- Asset based lending. (ABL) Banks loan money to companies based on their balance sheet strength and the cash flow/profits reflected in their income statement. If your balance sheet leverage is above 4-1 and if you were unprofitable last year, you should probably skip the bank step and go directly here. Most of these lenders will charge a 1-1.5% monthly service charge and Prime plus 3 or so for the money. When you annualize this out, your cost of capital could easily be 18-21%. It’s expensive, but available.
- Bootstrap your business. Tal to friends and family or an investor. This is the least attractive way to obtain funds. Depleting your personal assets can be risky if you’re planning to use those as your rainy day fund. It can be awkward to borrow from family or friends. So, that leaves an investor. It’s very difficult to find investment capital from amounts under $500,000 because the investor would rather make a big investment vs a smaller one. The cost of underwriting the investment is the same for both and while the risk is smaller on small investments, so is the reward. Plus, it’s not out of the question that the investor may want control of the business, if the investment made is greater than 51% of the business value. That’s a non-starter for most owners.
Establishing working capital is a requirement for a solid financial foundation for your business. It’s important to understand and meet the requirements for each type of working capital option so you can get the best terms available and make the most of your cash on hand.
