Business Financing - Loans Review

Business Loans

Review

Business Loans are vital to

most businesses.

Business require loans for

growth, for financing inventory,

A/R, for buying equipment,

short terms bridging and more.

Here is a quick review of the more popular business loans available.

Traditional Bank financing

Includes short term and long terms loans as well as Line of Credit. Many times the bank would work with your company on a mix of a few financing products, such as line of credit and a long term loan, based on the business’ needs and circumstances.

The lenders would base their decision on a set of factors including business history, strong and solid profitability, cash flow, projections, assets and general comfort level with the management.

These loans are typically fully secured by the business’ assets, such as inventory, accounts receivable, equipment and commercial real estate.

Personal Guarantee of main owners might also be required.

These loans would typically be the most cost effective compare to all other options.

Term Loan – usually a long term loan, 1-10 year that is paid back according to a monthly schedule.

Line of Credit – a certain amount that the business is allowed to withdraw for its ongoing working capital needs. The LOC is usually secured for 12-24 months and is pending renewal at the end of the period. Ideally, the LOC is used to cover peaks of cash needs and is not maxed out constantly.

Asset Based Lending (ABL)

ABL loans would typically be based on some of the business current assets such as inventory and A/R.

These loans would be tied to the assets and the amount of credit extended to the business would fluctuate according to the fluctuation at the asset base.

A common form of an ABL facility could be a line of credit in the amount that is equal to 50%-60% of the qualified inventory on hand and 80%-90% of qualified account receivable balance. That means that as the asset base changes – the inventory and AR balance – the line of credit limit would change and the business would be able to enjoy a higher line, or would have to pay down some of the line, to match the formula.

These loan would typically be 3%-5% more expensive than regular bank loans.

Merchant Cash Advance

These loans are given to businesses that have constant daily deposits, usually credit cards charges or eCommerce deposits. The loans are paid back within 3-8 months.

The loans are paid back by a fixed daily or weekly amount.

Loans amounts typically would be in the range of 80%-200% of the monthly deposit, based on the trailing 6 months average, as long as the daily or weekly payments do not exceed 7%-15% of the expected deposits.

These type of loan are very expensive and could easily end up at 30% - 50% APR and more. (These loans are actually structured not as loans, rather as participation in future deposits).

SBA Loans

SBA loans are facilitated through banks and different lenders and offer up to $5M.

Since 40%-75% of the loan is guaranteed by the SBA (Small Business Administration), lenders would have somewhat lower requirements as far as the business financial strength and collateral, compare to regular banks secured loans.

Having said that, these loans still require strong collateral, personal guarantee of owners (from owners that own more than 20%) and for the business to demonstrate healthy cash flow that will be able to service the loan.

7(a) Program – Can be used for Working Capital, Inventory, Business Acquisition, Equipment, Real Estate and Debt Refinancing. Terms normally would be 7 – 12 years at a cost of about 2%-3% above prime.

504 Loan – Can be used for purchase of commercial real estate, machinery and equipment and re-financing. The borrower would have to self-fund 10%-20% of the purchase.

Venture Debt

Venture debt refers to private lending provided as sort of alternative to an equity investment or to mezzanine financing. These loans are not secured and are given based on expectation to a short or mid-term impressive growth.

As the lenders rely on an expectation of growth or a profitable event that the business is expecting to meet, and rely less on the business proven successful history or assets base, the lenders assume higher risk and as such would expect high returns.

Venture Debt can be structured in various ways and combinations, including high interest, royalties, no amortization for initial period and so on.

These loans would cost 15%-22% and could go up to 30%. Terms would usually be 3-5 years.

Mezzanine Financing

Mezzanine Financing refers to a loan facility that is usually granted with the expectation to some sort of M&A or financing event within the following 12-24 month, such as buyout, Venture Capital investment, Acquisition and others.

Mezzanine financing is usually a hybrid of debt and equity financing, usually a combination of interest and conversion to equity component and would translate to a total cost of 12%-20% apr.

Equipment Financing

Purchasing of equipment can be done through many forms of loans. However, there are usually two types that are more focused on equipment financing –

Equipment loans – The lenders would fund 80%-100% for 3-10 years. The lenders use the equipment as a collateral and might require additional collateral or personal guarantee.

The amount funded, the term, collateral and interest rate depend on the type of equipment and the financial strength the business is able to demonstrate.

Leasing – Leasing is similar to renting. Equipment leasing is usually structured in a way where the borrower rents the equipment for a few years and at the end of the period the borrower can purchase the equipment at a relatively insignificant amount.

Usually it would be easier to qualify for leasing, compare to an equipment loan. Leasing usually would be more expensive than a loan, however, when factoring in tax benefit, the cost could be very similar.

Factoring

Factoring is essentially the selling of your accounts receivable at a discount. It is a way to release the cash that is sitting in the business accounts receivable. It better fits businesses that have solid and fairly recurring accounts receivables, for example, businesses that sell regularly to wholesale accounts.

Factoring could cost about 0.5%-2% a month. The cost depends on multiple factors, including the financial strength of the business, and the rating of the business’ customers, how healthy the accounts receivable aging looks like (not too old, not beyond agreed terms), A/R concentration and others.

Factoring can usually be approved within a few days and is fairly easily to facilitate on a daily basis thereafter.