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Business Observer Monday, Apr. 29, 2013 5 years ago

When the Bank Says No

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Not every business qualifies for traditional lending. But alternative financing can help fill gaps in cash flow.
by: Cheryl O’Neill Staff Writer

Over the years, I have had the opportunity to work with many small business owners, and one question that I was frequently asked was “when the bank says no, how do I get the financing that I need for my business?”

It can be time consuming and confusing to find an alternative financing solution. And once you think you have found it, is it the best option and with a credible funding source? These are the questions I help businesses in need of financing from non-traditional sources navigate.

Growing businesses often face many cash flow challenges. Even if you have some money put aside, you could discover that it is not enough. A shortage of cash can also come from a variety of situations.

Below are three scenarios in which business owners find themselves in a cash-flow crunch. Following the scenarios are possible alternative funding options that may meet these business owners' financing needs.

Scenario 1
A client I'll call Mike began an IT consulting firm. Within eight months, he signed on a major customer who wanted 45-day payment terms. This customer was going to be worth around $500,000 a month in revenue. Although it was a great opportunity, at the time Mike couldn't qualify for a bank line of credit, and offering those payment terms would create cash-flow issues because he had a weekly payroll to meet. Mike had to find financing or turn away the business.

Rather than turn down a potentially good client, Mike was able to “factor” his accounts receivable. Factoring is a financing method in which a business owner sells his accounts receivable at a discount to a third-party funding source (factor) for immediate cash.

In a typical factoring arrangement, the client (you) makes a sale, delivers the product or service and generates an invoice. The funding source (factor) buys the rights to collect on that invoice by agreeing to pay you the invoice's face value less a discount. Because factors extend credit not to their clients but to their client's customer, they are more concerned about the customer's ability to pay than the client's financial status. Factoring is not a loan so it does not create a liability on the balance sheet or encumber assets. It is the sale of an asset - in this case, the invoice.

Another form of alternative financing that might help Mike is an asset-based loan or line of credit. Because Mike was able to sign on the major customer, who will be generating about $6 million annually in revenues, this would be the next option for him. An asset-based line of credit provides businesses with immediate funds and ongoing cash flow based on a percentage of the value of the company's assets, such as commercial accounts receivable, inventory, business equipment and machinery. When you apply for an asset-based loan, you pledge the assets to secure the loan. The rate is less expensive than factoring but to qualify, a business needs to be generating at least $4 million yearly in revenue.

Scenario 2
A startup computer company received a large purchase order from a school board for 250 computers and did not have the money to fill the order. The company tried to negotiate its supplier terms, but couldn't get approval for the amount it needed since it was a new business.

To get the money needed to pay its supplier, the computer company was able to finance its purchase order. This short-term financing gives you the ability to purchase raw materials or finished goods quickly. A typical scenario is a business that has a purchase order ready to fill, but not the funds to pay its suppliers upfront. Using a purchase-order finance company, the suppliers are paid directly usually via a Letter of Credit. The business fulfills the order, with proceeds arriving after shipment is received.

Scenario 3
A restaurant flooded, and the insurance only covered 80% of the costs of the damage. It needed the difference immediately because the restaurant couldn't open until the work was completed.

To get the work done to reopen, the restaurant was able to get a merchant cash advance based on its monthly average credit card sales. This is the purchase and sale of future credit card income. The lender collects a set percentage of the company's daily credit card sales. The collection continues until the lender is paid off, usually within a year.

So how does one find these credible funding sources? You can work with a company that specializes in alternative financing (like AFO) or ask your banker, CPA, attorney and other trusted advisers for recommendations. They usually know of and/or work with some. You can also check the various organizations that have alternative lenders as their members, such as the Commercial Finance Association, International Factoring Association, and Association for Corporate Growth. There are also local groups that can help direct you to those sources such as SCORE and the Small Business Development Center.

A concern among business owners is that alternative financing, especially factoring, is expensive. It does cost more than traditional financing, but not as much as some people might think. To protect yourself, you should work with a credible funding source that will disclose all of its fees upfront, and you need to shop around to make sure you are getting the best pricing. For most of these funding sources, a business needs to make at least 15% profit for them to work. And if a business is in a do-or-die mode with its cash position, it makes sense to take the higher rates of alternative financing rather than lose business or worse, close its doors.

Cheryl O'Neill Gowen is president and CEO of Alternative Funding Options. She works with business owners seeking cash flow from non-traditional sources, drawing on more than 30 years' experience in banking, financing and staffing. Contact her at: [email protected]undoptions.com.

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