What is Cashflow finance?
Cashflow finance is funding provided to a company which is backed by that company's future expected cash flows. This differs from an asset-backed loan, where the collateral for the loan is backed by a tangible asset or assets. Also known as a ‘cash flow loan’, cashflow finance is available for any solvent businesses.
All businesses, large and small require funding at some point and cash flow backed loans are available to any business. Funds derived from cash flow loans are typically used for working capital or business expansion. Fast-growing businesses often experience shortages in working capital.`
Essentially, companies are borrowing from cash flows they expect to receive in the future by giving another company the rights to an agreed portion of their receivables. This allows companies to obtain financing today, rather than at some point in the future. Obtaining funds sooner allows businesses to maximize opportunities and support rapid growth, or just to pay for operating expenses.
The repayments for cash-flow loans are based on the company's projected future cash flows. (You can read about forecasting cashflow here). Future cashflows are naturally considered riskier than a tangible asset and therefore cashflow loans generally demand a higher interest rate.
Cash flow lenders are typically focused on adequate levels of EBITDA growth and margins. Cash flow loans vary in duration, however, longer loans are considered higher in risk.
For businesses offering payment terms to their customers, cashflow issues can be compounded substantially. Waiting 30 or 60 days for payment, force most companies to fund their operating expenses through cashflow financing. Many companies will allow for financing costs by building it into their costs of goods.
"Poor cashflow management is the number one cause of insolvency in small businesses."
Poor cashflow management is the number one cause of insolvency in small businesses. Failure to measure future expenses against future incomes can result in insolvency for an otherwise healthy and profitable business.
Assessing the amounts, timing and uncertainty of cashflows is one of the most basic objectives of financial reporting. Understanding the cashflow statement – which reports operating cashflow is essential for assessing a company’s liquidity, flexibility and overall financial performance.
An example of cashflow financing.
Labour hire company LH PTY LTD is commissioned by WDL PTY LTD to provide 10 staff for a 3-month project. LH PTY LTD must pay its staff member at the end of each week. However, LH PTY LTD must wait for 30-days from the end of the month to receive payment from WDL PTY LTD. In this scenario, LH PTY LTD would borrow against a future cash flow (invoice) to pay the staff on time.
Cashflow finance options.
A fixed term cashflow loan is the most common type of small business loan. As the name suggests, the loan is repaid at fixed intervals over an agreed period. Also known as an ‘unsecured business loan’, this type of loan is considered high in risk and therefore demands a high rate. The rates may be reduced substantially should the borrower offer additional collateral.
For businesses of all sizes, offering their goods or services to other businesses on payment terms, there is another option. An invoice is effectively the promise of a future, positive cashflow in writing and can be used as collateral for borrowing funds. Known as invoice finance or debtor finance, accessing funds tied up in invoices is common practice in certain industries. Leveraging the unpaid invoice as collateral can considerably reduce the cost of cashflow finance and is a suitable ongoing solution. Those most suited to this type of funding are in recruitment, labour hire, wholesale, manufacturing, logistics and business services.
Cashflow lenders will welcome additional assets as security and this will generally reduce the loans rates. Whilst it may be wise to pledge company assets to reduce the cost of capital, pledging personal assets is considered poor practice.
For large corporations there existing considerably more options for working capital, from offering additional shares to bespoke loans from banks.
With a plethora of lending products to choose from, it is important that business owners take a pragmatic role when selecting a cash flow finance product. Choosing the wrong product for your business may further compound cashflow issues and put your business at risk of insolvency. Whilst choosing the right product may see your business grow to its full potential.
Waddle aligns to the Invoice Discounting model in that it’s a confidential facility, and thanks to its technology platform, Waddle is available to business of all sizes such as wholesaler Eclipse Organics, and it can be set up within 24 hours. Learn if Waddle is a good fit for you.
The ongoing use of the facility is simplified as the platform integrates seamlessly with the business’s existing accounting and back-office processes. See how Waddle compares to other types of invoice finance.
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