If you are looking for some alternative financing options for your business, then this article presents well-researched information to help you find the right channel.
One form of alternative financing is asset-based lending, which can be structured as a loan or line of credit and is collateralized by the assets you own. The financing company has the right to seize your pledged assets in the event of nonpayment.
The amount of an asset-based loan will depend on the total appraised value of the assets pledged as collateral, with higher liquidity being more highly valued. Therefore, liquid assets such as accounts receivable are commonly pledged as collateral. Less liquid assets such as equipment, inventory, and real estate can also be used as collateral but will offer less appraised value.
Although asset-based lending heavily focuses on the assets pledged as collateral to determine qualification standards, your creditworthiness is still considered, which could potentially affect interest rates. An asset-based loan also has flexibility in terms of how the loan proceeds can be used, provided that they are used for business expenditures.
However, there is the risk of losing your pledged assets if you are unable to make payment. Asset-based lending may also come with high costs, which can be further exacerbated if your company does not have the kind of assets that the lender requires or prefers.
Business Line of Credit
Business lines of credit are fixed amounts of money that lenders provide for borrowers to withdraw from. Lines of credit are a flexible form of financing and can fund most business expenses, from short-term costs to funding long-term projects. Not only do banks provide a business line of credit, but so do alternative lenders. Alternative lenders provide you a business line of credit based on different criteria and often much quicker and easier than traditional banks can.
It is extremely difficult to get a business line of credit from a bank. Since a line of credit is much more beneficial to borrowers than it is to banks, banks are discouraged from issuing a business line of credit.
Borrowers immensely benefit from this financing option because they can withdraw any amount whenever they want, and interest will only be charged on the amount withdrawn. This is disadvantageous to banks because they would need to have a set amount of money reserved for the entirety of a line of credit but they can only charge interest on the amount withdrawn. Term loans are preferable as banks can charge interest on the entire loan amount.
For these reasons, businesses usually have to turn to alternative lenders to get a business line of credit. Even then, business lines of credit can still be difficult to obtain for the aforementioned reasons.
Invoice factoring is a type of alternative financing in which a factoring company will buy unpaid invoices from you for an immediate advance payment. You receive advanced funding from these outstanding invoices instead of having to wait for the collection period of 30-120 days. Since this payment is not a loan, you can use the advanced cash for any business-related expenditure, from raw material, hiring new employees, or paying taxes.
The factoring company will then collect the invoice amount from your customers and will deduct a percentage as a fee for services and charge interest on the advanced amount. Total fees and interest may be considerably cheaper than borrowing from a credit card or hard money lenders.
Invoice factoring is intended primarily for businesses that rely on invoice payments for their cash cycle. Because it usually takes months for customers to pay invoices and some may even end up paying late, invoice factoring is a great financing option to bridge a company’s funding gap. You trade having to wait for full payment in exchange for receiving immediate funding that deducts a fee and short-term interest, which is highly beneficial for companies with cash flow problems.
There are two types of invoice factoring: recourse and non-recourse. In recourse factoring, if your customer defaults on the invoice payment, you are required to pay the outstanding invoice amount. In non-recourse factoring, the factor will assume most of the risk of non-payment from your customers but will instead charge a higher factoring fee.
Factoring companies will also look towards the creditworthiness of your customers. If startups or companies with low credit have creditworthy customers, they are still likely to be approved for invoice factoring. If your customers are not creditworthy, you can still qualify for recourse factoring.
Merchant Cash Advance
Merchant cash advances are structured similar to a loan despite being a cash advance. After forwarding cash to a borrower, an MCA company buys the rights to take a percentage of your future sales, including your future credit card and debit card sales.
The benefit of an MCA is that the requirements to qualify are minimal. For example, your business needs to have sales and credit sales over the past 6 months. Additionally, MCAs can provide their cash advances within a couple of days.
However, a merchant cash advance will be exponentially more expensive than other financing options and likely disrupt future cash flow. MCAs can also be highly susceptible to predatory practices. While receiving a cash advance may be quick, guaranteeing that the MCA company would not prey on your business requires an extra level of caution.
Overall, merchant cash advances can solve short-term problems and require little from your company, but this should only be considered as a last resort option.
A short-term loan is another option available for startups and small businesses that are not eligible for traditional bank loans. Short-term loans can range from $100 to $100,000 and must be paid back within a year. While banks do not offer short-term loans, they are commonly issued by alternative lenders.
Short-term loans are solutions to temporary and unexpected financial problems. The total interest is less, and both the application process and the funding happen quickly.
Conversely, short-term loans also do not offer much funding. Since the loan must be repaid within a year, the loan amount is smaller than other typical financing options so that the borrowers can easily repay.
Bottom Line on Alternative Financing
There are numerous alternative financing methods, including more than the ones mentioned in this article. Business owners may consider working with alternative lenders given that most alternative financing options are faster than traditional financing. Before working with a lender, make sure that you thoroughly research your options so that you are able to choose the option that works best for your business.