TL;DR: Cashflow management is one of the biggest challenges for small businesses. This guide covers practical strategies to improve your cashflow, including faster invoicing, better payment terms, and funding options like invoice finance.
Cashflow is crucial in running a business. You can make all the money in the world, but without positive cashflow, it’s hard to cover expenses and grow the way you want to.
Even perfectly profitable businesses struggle with cashflow. It’s one of the most common reasons businesses go under, accounting for more than 80% of business failures.
Cashflow funding addresses this very issue, but there’s a few different forms and it can be difficult to know where to start. This is everything you need to know about cashflow loans.
Understanding cashflow loans
Cashflow lending is a type of unsecured borrowing that businesses use to cover day-to-day expenses and outgoings like rent, wages, purchasing inventory etc..
They’re different to typical bank loans in that they don’t have the same level of credit analysis of a business. Rather than securing the loan against assets, the business needs to show its capacity for generating revenue.
How does a cashflow loan work?
Cashflow loans are great solutions for small businesses or startups that struggle to satisfy the requirements of traditional lending. They may not have sufficient assets, or the credit history required to get a conventional bank loan.
From the lender’s perspective, this makes the loan more of a risk. The increased risk means businesses will tend to pay higher interest rates than with other borrowing.
Cashflow loans come with origination fees that are typically higher than with other lending, and often have higher late fee charges as well. All of these extra costs make cashflow lending an expensive source of finance. Businesses that take this route should plan to pay back their borrowing as soon as possible in order to reduce the cost involved.
To get a cashflow loan, businesses need to illustrate how they expect to receive money in the future. You may have projects in the pipeline, but bills to pay right now and not enough cash to cover the cost. This is where getting cashflow lending can help to improve cashflow in quiet periods and keep the business running until money from future work comes in.
Depending on the lender, and what your requirements are, businesses can typically borrow anywhere from $5,000 to $250,000.
There can be two different repayment options with cashflow finance solutions:
- Repayments can be a percentage of the business’ sales, or;
- They can be in fixed amounts over a set period of time
Asset-based lending vs. cashflow lending: What’s the difference?
When assessing whether to use cashflow finance or more conventional, asset-based lending, there are two main differences to be aware of.
As we’ve mentioned above, in cashflow lending, businesses don’t secure their borrowing against assets. Rather than using property, equipment or inventory as collateral, businesses stake their lending against expected future cash flows.
Cashflow is generally considered by lenders as a part of credit checking a business for asset-based lending, but it’s not given the same weight as the value of its assets.
That means cashflow finance is often easier for small businesses to get. Startups and smaller enterprises often don’t have the collateral to secure large asset-based loans against.
Read more: Cashflow improvement tips for businesses that invoice
Similarly, different features of businesses make them more suitable for either asset-based or cashflow finance.
Businesses with large balance sheets, significant assets, or (ironically) less cashflow tend to be better suited to asset-based lending.
Cashflow lending is generally a better option for businesses with high margins and fewer assets.
Downsides of a cashflow loan
If you’re in a business that seems more suited to cashflow funding, it’s also worth being aware of its limitations. A cashflow loan does impact borrowers in a few key ways – these are some of the common downsides with cashflow lending:
Fees
As we’ve mentioned above, cashflow funding is generally a more expensive option than asset-based borrowing.
For example, Bloomberg Businessweek found cashflow lender OnDeck charged an average annual interest rate of 54%. At the same time, banks were charging between 7-9% and smaller lenders were offering 10-20% interest on asset-based loans.
As well as interest, lenders charge other fees for cashflow loans. Origination fees are around 2.5% the value of the loan, and late fees can be significant if, for whatever reason, you’re unable to make a repayment on time.
Liens and personal guarantee
While cashflow loans don’t involve using assets as collateral in the same way asset-based lending does, that doesn’t mean lenders have no rights to claim property. Cashflow lenders do require security in order to issue loans, but the way they do it is different.
Instead of securing loans against specific assets of an agreeable amount, businesses offer a general lien that can be used by the lender to claim assets that cover the outstanding balance.
A lien is a legal right that’s established by lenders to claim assets in the event that a borrower doesn’t meet their payment obligations.
What’s more, business owners need to sign a personal guarantee for the loan, which means they are responsible for repaying the debt even if the business can’t.
Adopting cashflow loans for your business
As a small business owner assessing finance options, it may seem that expensive short term cashflow loans are your only option.
However, you may be able to utilise invoice financing. At the very least, invoice financing can reduce the amount of expensive borrowing you need to do. At best, it may be a cashflow finance solution that means you don’t need to get a loan at all.
Invoice financing works by lending businesses the value of their invoices. Borrowing is essentially secured against invoices, and the effect is the same as if customers paid their invoices immediately.
This promotes healthy cashflow by enabling businesses to cover expenses and investment opportunities that fall between work being completed and money coming in.
For example, if wages are paid every two weeks and invoices are sent every month, that’s at least one round of wages that businesses have to use their cash reserves to cover.
When using FundTap for invoice financing, businesses link it to their online accounting software, so when customers pay their invoices, the amount is automatically direct debited to FundTap, plus a small fee.
FundTap is on demand and so you only use it when needed. With a single transparent fee that is only charged when you receive funding, you are in control.
Find out more about how FundTap is a great form of cashflow lending, or check out a free demo today.
Related Resources
Frequently Asked Questions
What causes cashflow problems?
The most common cause is timing, the gap between earning money and receiving it. For B2B businesses, this means waiting 30-90 days for customers to pay.
How can I improve cashflow quickly?
Invoice promptly, shorten payment terms, follow up on overdue invoices, and consider invoice finance to access funds before customers pay.
Can invoice finance help with cashflow?
Yes. FundTap provides on-demand invoice finance with no lock-in contracts and fees from 4%. Select an invoice and get funded within hours.
