Purchase Order Financing Or Equity. Which Is Better For The Growth Of My Business?

Purchase Order Financing Or Equity. Which Is Better For The Growth Of My Business?

Purchase Order Financing

Purchase order financing is the most frequently requested business loan inquiry we receive. Depending on the size of the orders and opportunities that lie ahead for the company, bringing in an equity investor is also a consideration. There are distinct advantages to both and we will outline the main advantages of each here.

The day has come! The customer you have been chasing for weeks, months or even years gives you the purchase order that you have been hoping for! Now, how do we afford to pay suppliers and other costs associated with the order? Ideally, you would be able to do this with internal cash flow and not have a need for outside financing. However, the truth is, if you are doing a good job on the sales and marketing side, you will quickly outgrow your internal capacity. AND, this is a good thing! Of all the stresses business owners encounter, having a large pipeline of sales if the best!

The conversation quickly turns to, “how do we afford these orders now that we have them?” Is purchase order financing or equity the better option? The answer, it depends.

Purchase Order Financing

By financing the cost of goods for your orders, you are leveraging the growth of your business through outside capital. Let’s go through an example:

  • You receive a PO for $100,000
  • Your gross profit is 50%
  • This makes your cost of good also 50%
  • You borrow $50,000 to cover the costs to your suppliers, shipping costs, etc.
  • Your working capital cycle is 90 days from the time you receive the order, to the time you ship, to the time the customer pays
  • Cost of the financing is 3% every 30 days the money is outstanding

Let’s say a major retailer awarded your company a $100,000 PO as outlined above. You need to borrow $50,000 for 90 days. The cost of the financing will be $4,500 for the 90-day period ($50,000 X 9%). Your adjusted gross margin would be $45,500 ($50,000 – $4,500).

The purchase order finance company is repaid by the customer’s payment. By using this form of financing you are leveraging 100% of the cost of goods and have the capital to grow your business. Additionally, the PO financing allows you the added strength of being a cash buyer. Our clients negotiate discount terms with suppliers to offset a portion of the cost of the financing.

For example, a 2% product discount for early payment in the sample transaction above would equate to $1,000 ($50,000 x 2% = $1,000). This savings in product cost would reduce the adjusted finance cost to $3,500 ($4,500 – $1,000 = $3,500).

The advantage of purchase order financing is that it can grow as your business grows assuming your customers are credit worthy. The PO finance company’s primary source of repayment is the customer. This makes the customer’s financial strength a key factor in underwriting these transactions.

The disadvantage of PO financing is that it only covers variable expenses associated to sales. This is where equity may be a better fit.

Equity Capital

Equity comes in to play when you need more than your cost of goods covered. Examples of when equity may be a better call would include the following:

  • The equity group brings value outside of the capital being invested such as supplier and customer contacts.
  • In-roads and introductions of value that the equity group brings to the table
  • When funding for marketing, salaries, plant expansion, and other fixed expenses are needed to grow and scale the company

The equity group will take a percent of ownership in exchange for their investment. The strategy may or may not include the sale of the company in the future at some multiple.

Equity can be a viable option if there are a lot of fixed expenses to be covered. Prepare to give away a large chunk of your company when exploring equity options. The equity group is seeking a return on their investment and realize that they are in the power position by bringing in the majority of the capital needed to grow the company.

Summary

Both forms of financing can be useful when growing your business. Purchase order funding can be used as a bridge to finance your growth. Once you scale your business to a certain level and can fund operations internally, you don’t need outside financing and can save the finance cost. On the other hand, equity can cover the costs of a much broader list of expenses. The downside is that it’s a “now and forever” proposition. The equity group and your company are joined “until sale do you part.”

We always advise on debt versus equity when you can. It’s the bridge needed to grow your business, but not permanent by definition. If you would like to discuss which form of financing is best for your business, call us at 844-239-2632. We would be happy to lend a hand!

To your success!

Huntington Coast Capital.

Purchase Order Financing Versus Letters Of Credit

Purchase Order Financing Versus Letters Of Credit

Paying suppliers is a required and continuous expense for business owners whether you’re in retail, own a restaurant or are a manufacturer or distributor. Cost of goods sold is the first deduction against gross revenue on any companies income statement. The lack of ability to pay for the cost of goods expense severely impacts the growth potential of the business. In this article, we are going to look at the difference between purchase order financing and letters of credit and how they are used in business.

Letters of Credit

Letters of Credit (abbreviated “LC’s”) are bank instruments drafted to secure international and domestic purchases. They provide assurances for both the buyer and the seller of the goods. The seller is assured payment as long as the terms within the LC are met. These can include satisfactory inspection and acceptance of the goods at the port, factory or upon arrival to their destination. When the goods are paid for under the LC is negotiated between the parties.

Letters of Credit essentially assure two things: 1) the buyer has the financial wherewithal to make the payment for the goods, and 2) the supplier will deliver the goods as ordered on time. LC’s are opened with both the buyer’s bank and the seller’s bank and work together to assure the performance of each.

Requirements are a bit more strict with Letters of Credit than they are with purchase order financing. The LC has to have underlying collateral that is typically in the form of cash or accounts receivable.

When a company applies for a Letter of Credit from a bank the company must have an equal or greater amount of cash or accounts receivable available once the LC is drawn on. The buying entity needs to demonstrate that they have the financial wherewithal to cover the cost of goods once conditions have been met. The buying entities funds are typically held in a control account (similar to an escrow account) until needed. This control of the funds is necessary to assure the supplier that funds will remain available for payment from the time ordered to delivery and payment.

In this respect, LC’s really are not a financing tool as no monies are actually borrowed but rather set aside for a particular transaction. This form of international trade “finance” is a protection against financial loss on available capital versus new money used to cover the cost of goods.

This form of financing is set aside for more established companies with enough liquid collateral available to cover the expense. Consider LC’s as an insurance against loss of principle versus true outside financing. For more granular details on Letters of Credit click here.

Purchase Order Financing

Conversely, purchase order programs offer financing to cover the cost of goods to suppliers beyond cash and accounts receivable collateral. Startups, companies experiencing high growth and even the majority of established companies often need additional capital. In the majority of cases, the capital needs are larger than the accounts receivable balance or internal cash reserves.

In these scenarios, Letters of Credit would fall short of the financing needs required to cover the cost of goods.

Purchase order financing pays suppliers for materials required for the buying entity’s growth. Clients utilizing purchase order financing sign contracts with the finance partner. There is typically a personal guaranty for the facility that acts as a backstop should the transaction not offer enough support to pay back the line in a downside scenario.

Purchase order finance underwriters focus on three main areas when assessing new funding requests:

  • Financial strength of the customer(s) for which the PO’s are being generated: when purchase order financing is being requested the fund will want to thoroughly understand the credit strength of the underlying customer. For example, if the underlying customer is a nationally known retailer odds of approval are greater. Conversely, if the PO’s are being generated for a “mom and pop shop” with limited to no financial information available, approval is much more difficult.

 

  • Financing strength of the supplier: the source of where the goods are coming from whether international or domestic must also be fully understood. Suppliers are typically larger and more established. Usually, but not always, financial information is available on these companies and information can be verified to give the purchase order finance company comfort in wiring them money for the transaction.

 

  • Transaction history between the parties: It is important to know how long the client has been dealing with a particular supplier. Approval is much easier if there is a long history that can be documented through shipping documents, invoices and bank transactions supporting successful delivery of past orders. Purchase order financing works best when taking a company’s current business cycle from Point A to Point B versus financing orders for an entirely new supplier relationship that has zero past transaction history. This is because there are a number of inherent risks that go with financing first time orders; lack of past, successful delivery of orders, fraudulent supplier claims, capital at risk before performance, to name a few.

Purchase order financing is a line of credit used specifically to cover the cost of goods when capital needs are larger than available internal cash or accounts receivable.

In Summary

If you are an established company with no need to borrow outside capital, a Letter of Credit would be adequate for your needs. LC’s provide assurance against loss of principle by providing a check and balance prior to releasing funds.

Purchase order financing comes in to play when cash needs are higher than internal capabilities.

Both mechanisms facilitate trade financing and move business forward. Which program is best for your company depends on where you fall on the spectrum. To learn more about how Huntington Coast Capital’s purchase order financing solutions can work for you, watch this short video that explains the process.

We provide consultation and secure funds for a broad base of business financing needs. Call 714-719-8966 to learn how these programs can work with you to grow your business!

5 Things You Should Know About Purchase Order Financing

5 Things You Should Know About Purchase Order Financing

Purchase order financing is widely used to cover the costs of materials, supplies and delivery expenses associated with various products and services. Huntington Coast Capital has been securing purchase order financing for clients since 2009.

Here are 5 things you should know about purchase order financing:

This financing is offered to cover the cost of goods associated with your sales. 

Companies in most all industries have a cost of goods. There are raw materials needed for manufacturing operations, supplier payments required for wholesalers and inventory purchase needs for eCommerce and retail organizations to name a few. In the beginning, most companies finance their cost of goods internally with their startup capital which usually means their personal savings. If you are successful in your business, you will quickly outgrow your internal capital capacity and need to finance the increased cost associated with your sales. This is where purchase order financing plays a critical role in the growth of your business. Without purchase order financing, companies would be limited in how far they could take their business.

Banks do not offer this form of financing (unless you’re a large corporation and qualify to operate through a Letter of Credit).

For most business owners the first option is to speak with their bank when needing a “line of credit” for their business. The problem is that banks do not offer this form of financing for a number of reasons with the inherent risk in the financing being number one. The bank will offer a nominal line of credit, if at all, based on the financial strength of the business. Unless you’re a blue chip company that is well established, profitable and have a long history with your suppliers, you will not be getting any line of credit worth the time and effort.

Larger companies that meet the criteria can operate under a Letter of Credit which serves a similar purpose as purchase order financing, but is reserved for the top tier companies seeking credit.

Here Is A 30-Second Video Explaining How It Benefits Your Business

The cost is between 2.5% and 4% every 30 days on the money borrowed.

The cost you can expect when exploring your purchase order funding options is a monthly cost between 2.5% and 4% charged against the money borrowed every 30 days. For example, if you needed to borrow $100,000 to cover your supplier costs the finance expense would be between $2,500 and $4,000 for every 30-day period the line remains outstanding. If your margins are the typical 30% the sales price would be $130,000 to the customer and you would pay between $2,500 and $4,000 for the purchase order financing line. Your resulting gross profit would be $26,000 to $27,500 depending on the rates charged.

Keep in mind that while this may seem expensive, this represents a profit you would not normally realize without the financing in place. As a matter of fact, purchase order financing doesn’t cost you anything. You actually lose money by not using using it. This is especially true when the purchase order finance company is covering the entire cost of goods including any supplier deposits and shipping and logistics costs. In short, you’re playing with the house’s money as they say. Your margins and profit realized will be reduced, but still substantially better than the zero profit you would realize by not being able to deliver on the order.

Can work in conjunction with other forms of financing

Purchase order finance companies work nicely in conjunction with other forms of financing. In the majority of cases the business owners already have an existing line of credit. The line limit is not adequate to meet their growth needs and the bank has declined offering them further credit. Purchase order finance companies prefer that the company have access to additional credit as this provides further assurance that their line will be paid off.

Allows for unlimited growth of your business as long as the sales are supported by purchase orders from your customers. 

As alluded to above, purchase order financing provides your company with the access to capital necessary for growth. Companies in all industries utilize purchase order financing in some shape or form. Firstly, there is the direct borrowing of capital as described in this article and then there is credit offered by suppliers (i.e. n30 terms with discounts for early payment) to support growth. However, the later example is becoming more rare as suppliers are in need of cash flow themselves and are requiring payment at the time of purchase.

Our clients experience the benefits of not having to worry about fulfilling orders. There is nothing worse for a company’s reputation than to promise delivery of a product and then not being able to deliver. When this happens the customer loses confidence and seldom return and offer a second chance. You have one chance to prove yourself. Don’t let lack of capital hold your business back!

Summary.

If your business could benefit from additional capital, explore the purchase order funding options available to you by contacting us at 844-239-2632 or online here. We look forward to providing your business with solutions and playing a part in the growth of your business!

If you would like to research further, here are some further resources regarding purchase order financing.

Purchase Order Financing Versus Supply Chain Funding

Purchase Order Financing Versus Supply Chain Funding

Purchase Order Financing

Supply Chain Funding has been steadily growing in popularity with our clients. Supply Chain Finance programs provide the business owner with capital to cover the cost of goods and make supplier payments.

How does it work?

Finance companies offering this form of financing will look at the business owner’s equity in the business, profitability and growth projections to name a few areas of focus. The credit analysis is slightly different depending on the Supply Chain company you are speaking with. Some set the line amount at a percent of the equity in the business (i.e. 25% of the equity in the beginning raising to 50% over time), and others will base their credit limit decisions on the amount of insurance they can take out on the business, while some have a more subjective approach based on their review of the overall financial picture of the company.

How is Supply Chain Finance different than Purchase Order Financing?

When utilizing Purchase Order Financing, the business owner needs to provide a copy of the purchase order to the lender. The PO copy is the basis for the loan amount being requested and the lender’s collateral. PO finance companies are repaid at the time of delivery to the customer by the company’s factor or asset based loan provider (unless they are managing the total relationship). Purchase order financing is a good source of capital when looking to cover the cost of a specific order of finished goods.

Supply Chain Finance works a little differently. Under this arrangement, the lender will pay the company’s suppliers and then gives the company 30 to 120 days to pay them back through the normal course of business. This type of finance does not need to be specific to any one purchase order for the company. The lender becomes another vendor for the company on their account payable aging. This is a great alternative when the company needs to build inventory for their season or is an online or brick and mortar retailer selling directly to the consumer (no accounts receivable).

Which one is right for your business?

It depends on whether you have specific purchase orders to finance or if you need more of a general line of credit to pay suppliers. Both are great ways to enhance liquidity and each offer the business owner the ability to act with the confidence of a cash buyer. In fact, a good portion of the finance cost can be offset by taking discounts from suppliers for early payment. Utilizing these options are a great way to leverage your buying power and your company’s growth.

About Huntington Coast Capital.

Huntington Coast Capital secures funding for companies in a broad base of industries. Our clients come to us to find a more flexible lending partner to meet their growth needs. Many are declined by the bank and are in need of a more creative and entrepreneurial funding solution.

We consult on a wide range of funding options for business owners throughout the United States in the following areas:

  • Supply chain financing 
  • Equipment loans and lease programs (learn more about our equipment loan platform offered through our subsidiary)
  • Lines of credit for working capital needs
  • Term loans for marketing, hiring staff and general expansion needs
  • Factoring services for accounts receivable financing that also provides for back office credit and collection functions
  • Purchase order financing
  • Asset based loans
  • Business acquisition financing
  • Inventory financing
  • Private commercial real estate bridge loans
  • SBA loans for business and real estate needs

Whether you are a startup or established, in need of $100,000 or $10,000,000 we have the capital partners to meet your needs. Contact us to see how we can assist in taking your business to the next level. To your success!

Purchase Order Financing In California

Purchase Order Financing In California

Purchase Order Financing

Facilitating Business Growth Through Purchase Order and Supply Chain Financing

 

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The barrier to growth for most all businesses, especially startup ventures, is cash flow. Banks will tell you that you need two years of profitability (as shown on your company tax returns) before they will consider providing a business loan. If you do manage to qualify for a bank loan, it will almost always be an SBA term loan (one lump sum loan amount usually secured by real estate). These loans do not address the ongoing working capital requirements business owners need to fund purchase orders and other monthly cash flow needs.

This lack of access to capital is the reason the majority of businesses fail within the first three years.

The capital partners we represent have an entrepreneurial approach to lending that opens the door for many to grow their business without the covenants and restrictions of traditional financing! Here are a few examples of recently funded deals:

  • $100,000 Supply Chain Funding Line for a CBD Industry client – a distributor with enormous growth potential needed the capital to fund purchase orders. The initial line provided is $100,000 and will grow as the company’s sales grow. Estimated monthly volume with the financing in place is between $600,000 to $800,000 in monthly gross revenue.
  • $2,500,000 Supply Chain Line for a Home Furnishings Importer/Distributor – an already established company needed additional capital to increase sales. The use of this supply chain line of credit will allow them to grow from $50,000,000 to $75,000,000 in annual gross revenue!
  • $4,000,000 Supply Chain and Factoring Line for an Importer of PPE products – a newly formed entity in the personal protective equipment space needed capital to purchase goods from overseas suppliers. The partners in the business had solid experience and strong relationships on both the supplier and buyer side. The line of credit will allow them to scale their business and meet buyer demand.

About Huntington Coast Capital. 

Huntington Coast Capital secures funding for companies in a broad base of industries. Our clients come to us to find a more flexible lending partner to meet their growth needs. Many are declined by the bank and are in need of a more creative and entrepreneurial funding solution.

We consult on a wide range of funding options for business owners throughout the United States in the following areas:

  • Supply chain financing 
  • Equipment loans and lease programs (learn more about our equipment loan platform offered through our subsidiary)
  • Lines of credit for working capital needs
  • Term loans for marketing, hiring staff and general expansion needs
  • Factoring services for accounts receivable financing that also provides for back office credit and collection functions
  • Purchase order financing
  • Asset based loans
  • Business acquisition financing
  • Inventory financing
  • Private commercial real estate bridge loans
  • SBA loans for business and real estate needs

Whether you are a startup or established, in need of $100,000 or $10,000,000 we have the capital partners to meet your needs. Contact us to see how we can assist in taking your business to the next level. To your success!

Patrick Zazueta
Huntington Coast Capital, Inc.
Direct: 714-719-8966
patrick@huntingtoncoastcapital.com
www.huntingtoncoastcapital.comBRE License #: 02090967

Where to buy PPE Products in large quantities

Where to buy PPE Products in large quantities

 

Where to Purchase PPE Products

 

Huntington Coast Capital has access to PPE Products. If you’re looking to know where to buy PPE products in large quantities, give us a call, 714-719-8966.

Inventory cost, quantities and delivery schedules vary, so please inquire to get the latest details. We can support sourcing PPE products in large quantities. Access to the following inventory is available for either spot buys or production run orders:

N95:       all masks on CDC list / NIOSH certified

3M 1860 surgical (from authorized distributor)

3M 8210 – multiple brands available

KN95:    all masks on FDA current list. Several brands as available

3-ply masks:     several brands available

Nitrile gloves: (4ml and 6ml)

Regular shipments supporting continuing orders from China

Regular shipments from Vietnam / Malaysia / Thailand (soon)

Gowns: isolation (level 1 – 4) – Non sterile, Sterile, Medical / Surgical, Waterproof

Covid 19 antibody test (South Korea)

Quick delivery of PPE products is available through domestic suppliers.

Are you looking for where to buy PPE products in large quatities? Contact us to discuss. For example, we recently had a client looking for where to buy PPE products in large quantities. This particular client wanted to start with an order of 10MM 3M N95 masks and then ramp up to larger quantities. The first 10MM needed to be on the ground and inspected prior to purchase. From there, items would be ordered on a production schedule and delivered as available.

We solved the client’s request by locating the 3M N95 masks in standing inventory and shipped it to a local warehouse for inspection.

Call us direct at 714-719-8966 to discuss your PPE Product needs!

Purchase Order Financing For PPE

Purchase Order Financing For PPE

Huntington Coast Capital is proud to have been contributing in the fight against the COVID-19 crisis by providing purchase order financing for PPE products. Our asset based loan programs have secured purchase order financing for much needed supplies. These items include face masks, gowns, gloves, shoe covers and face shields.

Large purchase orders from counties, health organizations and hospitals from across the country have been filled thanks to the availability of capital in this unprecedented time. Without access to capital, supplies would halt and safety of our healthcare workers on the front lines would be compromised.

Purchase Order Financing For PPE

Are you an existing supplier of medical supplies in need of purchase order financing for PPE? Are you in need of additional capital to fill orders from your customers?

In this environment, we have seen huge demand because the order sizes are far too large for the average supplier. For instance, we have seen orders for a couple million dollars to over 100 million dollars. We have access to the capital required to fill these purchase orders.

Small Business Loans In California

Small Business Loans In California

Small Business Loan Application

What is the rate for a small business loan in California? “My company is looking for an asset based loan, but we do not want to pay too much!” This is the main concern when searching for a commodity finance product such as a commercial or home mortgage. Let’s face it, if I am refinancing my home mortgage, I do not care about the customer service of the mortgage company because I expect them to competently manage my mortgage needs. Further, I would not pay more for a perceived better customer service experience. My main concern, as with all of us when shopping for a mortgage, is rate.

However, in the asset based loan world, things are much different. For example, as a business owner looking to deliver on a sizeable purchase order you have been pursuing for months, cost is not the primary concern. Availability of cash is. This is because if you fail to deliver on your first purchase order, you will likely never receive another one from the same customer. Your reputation on being able to deliver is what keeps the orders coming in.

We deal with business owners on a daily basis that are under extreme timeline and performance pressure from a customer they have been pursuing for months. Once the opportunity finally comes, they simply must deliver! They view the lending partner as an asset based loan partner versus just a pocketbook. Small business loans in California are much easier to obtain when pursuing an asset based loan versus tradition bank financing.

Our private capital sources need to earn a return that is commensurate with the risk they are taking. It is a return that will both assist the borrower in their growth goals and earn the lender enough return to justify the risk of capital. A flexible asset based loan that allows the borrower a chance to expand their top line revenue where one did not exist before through traditional financing avenues.

So, the rate discussion is obviously something that is covered, but not nearly as important as it is with commodity lending. Loan rates on asset based loans range wildly depending on the asset being financed, industry the company is in and cash flow of the company.

If your business could use a flexible small business loan in California to grow your company and meet your full potential, we would like to speak with you!

To your success!

Patrick Zazueta | Founder
Huntington Coast Capital, Inc.

The Difference Between Bank Asset Based Loans And Private Asset Based Loans

The Difference Between Bank Asset Based Loans And Private Asset Based Loans

Huntington Beach, CA  Owning a business takes a lot of cash on hand. Cash to make payroll, pay rent (or a commercial mortgage), purchase supplies, marketing and advertising, etc. Business owners reach out first to the bank they have their business deposits with to see if they can provide them with a loan. Their bank is a good place to start, and if they can qualify, their journey ends there.

Different types of asset based loans.

Asset based loans can be made against any asset seen on a company’s balance sheet. The common assets used as a collateral for a loan are real estate loans, equipment loans, inventory and accounts receivable. Other collateral considered assets by a lender are purchase orders and supply chain funding lines.

Asset Based Loans Obtained From Banks. 

Banks provide asset based loans, but have stricter requirements than the private sector. The first difference you will notice is that a bank will most typically require you to open a deposit account with them in exchange for doing the loan. Depending on the size and type of asset based loan, the bank will require you to switch you entire banking relationship over them as a requirement for doing the loan. Switching your banking relationship is no easy or convenient task.

If deposits are not required, that means that the bank will look to fit you in to an SBA loan program. Banks mainly offer term loans under the SBA loan program versus revolving lines of credit. Loans made against accounts receivable, purchase orders or for supply chain funding are not on the menu for most banks.

The preferred type of asset based loan banks like to issue are for real estate and equipment purchases. The range of your required down payment will depend on the type of loan being considered, your business and personal credit and the amount of liquidity you have on hand post purchase. Most banks set their bottom limit at a 680 credit score or better to be considered for an asset based SBA loan.

Private Sector Asset Based Loans. 

In the private sector the whole credit picture is also considered, but not scrutinized quite as closely. The main consideration is the asset quality itself. For example, in an accounts receivable loan, the credit quality of customers, average collection days and historical bad debt write offs are of paramount importance. The private lender will look at business and personal credit scores and evaluate the company’s financial position, however they will also listen to the story. Many business owners have lower credit scores because all of their cash has gone in to their business and this sometimes creates issues meeting their obligations on time. The private asset based lender understands that an asset based loan will improve the company’s cash and allow them the growth opportunity they wouldn’t otherwise have without access to capital. This especially true when considering loans to finance purchase orders or establish a supply chain line of credit.

What Asset Based Loan Is Right For Your Business? 

Our advice is to always check with your business bank first. They are the ones that have the experience with your business and it’s always prudent to confirm their ability to assist.

The facts are that most business owners do not qualify for bank loans. This is the reason there is a market for the private asset based lender. Private capital can be used as a bridge or as a permanent financing for those that prefer less oversight from their lending partner.

What Value Does Huntington Coast Capital Bring?

In a word, experience. We have decades of experience in the private capital and institutional capital markets. We navigate our clients through the options, saving them time and when finding the right asset based lending partner for their business. If your business could use some additional capital to purchase equipment, real estate or to finance growth opportunities, we would like to speak with you.

Call us to learn more 714-719-8966.

What An Asset Based Loan Can And Can Not Do For You

What An Asset Based Loan Can And Can Not Do For You

We occasionally receive calls from people who are looking to buy a business. The advice when seeking an asset based loan is always to target a company with at least some assets. Service companies such as accounting or legal practices for example, typically do not have hard assets that they use on a daily basis. This disqualifies the possibility of an asset based loan assisting in the purchase of the company.

What assets do lenders like to use as collateral for their loan? Essentially, any asset found on a company balance sheet can be used as collateral for a business purchase. These assets include accounts receivable, inventory, equipment and real estate. Ideally, a company has more than one of these available to be used as collateral for the lender.

When dealing with a new business acquisition loan request, the first course of action is to explore the SBA loan program and see if you can qualify for a government insured loan. The advantage of this loan is the low down payment of 10 percent required from the buyer. The disadvantage is that the SBA loan program is difficult to qualify for. The underwriting guidelines review the target company tax returns to ensure that the company can take on the additional debt used in purchasing the business. Tax return analysis is the most conservative form of cash flow analysis because everyone looks to minimize profits on their tax returns to avoid paying high taxes.

Secondly, the SBA is also required to take outside collateral when making a loan. This usually means a 2nd position on the buyer(s) residence. Not all applicants own a home, or if they do, have equity to offer in the home. The psychological effects of placing your home as collateral can also be a bit intimidating.

If the applicant can not qualify for an SBA loan, there are private money solutions available. Asset based lenders outside of the SBA program are a bit more flexible. They look at the collateral of the business and see what cash can be taken out of the existing assets. For example, if a company owns equipment and real estate, can those assets be leveraged and applied toward the purchase price? Another popular way of purchasing a business is through factoring the accounts receivable. Invoice factoring companies are asset based lenders focused strictly on the accounts receivable of the business to be acquired. By factoring the accounts receivable, they can make additional cash available for the purchase. For example, if a company has $1,000,000 in open accounts receivable a cash availability of up to $850,000 can be made available for the purchase.

The last piece is what is referred to as a “seller carry back.” This is simply an amount of the purchase price that the seller agrees to accept over the course of a payment plan agreed to between buyer and seller. Asset based lenders view this as equity, but also prefer that the buyer has cash to bring in to the purchase. Cash investment from the buyer is important because it keeps them invested in making the acquisition a success. If the buyer has no capital at stake personally, it is easier to walk away from a failed acquisition. Buyers prefer 100% financing and lenders want some “skin in the game” in order to keep the borrower invested.

Asset based loans can make your business acquisition goals a reality. However, buyers need to be realistic in their expectations. If a buyer has zero capital to put down towards the acquisition or the company targeted for purchase has zero assets, the likelihood of success is very slim.

Advice: if you are looking to acquire a business using mostly outside capital, make sure the business has hard assets and you have a portion to apply to the purchase price. What was not mentioned previously is buyer experience. You should also have some experience in the industry your acquisition is in. For example, purchasing a repair shop and have adequate prior experience as a mechanic.

If you would like to talk about acquiring a business, give us a call 714-719-8966.

To you success!

Patrick Zazueta
Huntington Coast Capital, Inc.