Key Takeaways
- Cash flow lending refers to any type of financing that supports a business’s cash flow.
- Types of cash flow based financing are secured and unsecured loans, overdrafts, invoice financing, capital raise against equipment, and private lending.
- Advantages of cash flow lending include the availability of options, flexibility, and fast approval. Most importantly, it allows businesses to cover cash flow gaps and maintain operations.
- Drawbacks include the potential for overborrowing and its dependence on a consistent cash flow. It is also a short to medium-term solution and doesn’t address long-term needs.
- Before applying for a cash flow loan, it's crucial to check your cash flow statement and determine your capability to repay. It's also important to understand all terms and consider all options before applying.
Cash flow lending is a popular option for Australian SMEs seeking funding for their daily operations and other expenses. This form of financing, often referred to as cash flow based lending or cash flow based financing, is any type of lending that supports business cash flow. Understanding both the advantages and disadvantages is crucial so you can determine if cash flow lending is the right financing for your business.
What is Cash Flow Lending?
Cash flow lending for businesses is a catch-all term for any type of lending that injects working capital to support cash flow. Cash flow lending can come in a number of forms, including:
- Secured Loans: These loans require the borrower to pledge assets like real estate, vehicles, and machinery as security. Secured loans usually come with lower rates than unsecured loans due to less perceived risk on the lender’s end.
- Unsecured Loans: Cash flow lending can also come in the form of unsecured loans, which don’t require assets as security. These are quick and more accessible options for business owners looking for immediate funding.
- Overdrafts: This is a flexible financing option where businesses can borrow funds as needed and only pay interest on the amount drawn. Once the borrower repays what they borrowed, the overdraft limit resets, making the full limit available once again.
- Invoice Financing: Also known as receivables financing, this allows businesses to borrow against their unpaid invoices, allowing them to access up to 85% of their invoices’s value while waiting for customer payments.
- Capital Raise Against Equipment: This is a type of lending that uses business equipment as security for a loan. The loan amount is based on the lender’s valuation of the equipment.
- Private Lending: These are cash flow loans that are provided by private lenders instead of banks. These loans are more accessible, especially to businesses that may not meet the criteria for lending at traditional banks.
Asset-Based Lending vs. Cash Flow Lending
It’s important to distinguish between cash flow based lending and asset-based lending. Cash flow lending refers to any type of lending designed to support a business’s cash flow. It comes in many forms, including secured and unsecured lending. Meanwhile, asset-based finance refers to lending wherein you can leverage equipment as security. Thus, asset-based financing can be a form of cash flow lending.
Advantages of Cash Flow Lending
Business cash flow lending offers several advantages for small businesses in Australia. Here’s a closer look at the benefits:
1. Secured or Unsecured Lending Available
Cash flow lending comes in a lot of forms, whether through secured or unsecured lending. It’s a suitable solution whether or not you have assets to pledge as security.
2. Flexible Financing Options
Cash flow loans for small business provides flexibility in how funds are obtained and repaid. Whether it’s an overdraft, invoice financing, or equipment capital raise, businesses can choose the option that best aligns with their financial situation and cash flow cycle.
3. Fast Approval and Funding
Cash flow financing can be approved quickly, with some lenders approving loans within 24-48 hours. For businesses with pressing expenses like payroll and utilities, cash flow lending is a viable solution.
4. Customized Loan Amounts
Lenders offering commercial cash flow based lending typically provide loans tailored to the business’s revenue and cash flow projections. This allows for more accurate funding based on the business’s specific needs.
6. Cover Cash Flow Gaps
For businesses that experience fluctuations in cash flow, such as seasonal businesses or those waiting on large client payments, cash flow lending provides the liquidity needed to bridge gaps. This can help maintain smooth operations even during periods of financial strain.
Disadvantages of Cash Flow Lending
Despite its many benefits, commercial cash flow lending is not without its challenges. Business owners should be aware of the potential drawbacks to determine if this financing option is right for them.
1. May Not Address the Core Problem
While cash flow lending may be a lifesaver when cash flow is unstable, it may not address the core issue causing the cash flow problems. Your business may need a closer look to determine steps to overcome cash flow gaps, like diversifying the business or budgeting more prudently.
2. Potential for Overborrowing
Because the loan amount can be paid once a business gets sufficient income (e.g. during peak seasons), borrowers may overestimate their revenue and borrow more than they can comfortably repay. This can lead to financial difficulties down the line, especially if cash flow doesn’t meet expectations.
3. Dependence on Consistent Cash Flow
For businesses with fluctuating revenue or seasonal income, cash flow lending can be risky. If cash flow dips unexpectedly, businesses may struggle to meet repayment obligations. In such cases, the business could face late fees and damage to its credit rating.
4. Not Always Suited for Long Term Needs
Cash flow loans are often structured short-term or medium-term. For businesses seeking long-term funding for major investments, this type of loan may not provide the financial security they need and a more strategic long term financial solution may be more appropriate.
Reviewing Your Cash Flow Statement
Your business cash flow statement plays a crucial role in providing insight into the movement of cash within your business. One of the significant elements you’ll find in a cash flow statement is the inclusion of loans.
A loan in the cash flow statement typically appears in the financing activities section, as this section tracks the cash flow related to funding the business. This can include new loans taken out, repayments made on existing loans, and other forms of financing.
It is essential to track these movements accurately to maintain a clear picture of your business’s cash flow health and ensure you have the necessary liquidity to meet loan repayment obligations.
When Should a Business Consider Cash Flow Lending?
Cash flow lending is a suitable option for businesses that are experiencing temporary cash flow challenges. Here are a few scenarios where cash flow lending might be the best option:
- Seasonal Businesses: Companies that experience seasonal fluctuations in revenue may benefit from cash flow loans to bridge the gap during off-peak seasons.
- B2B Businesses: Businesses that rely on future revenue from contracts or accounts receivable can use cash flow lending to maintain operations while waiting for payments.
- Growth-Focused Companies: Businesses in expansion mode may need quick access to funds to take advantage of growth opportunities and continue operations while pursuing expansion.
Key Considerations Before Applying for Cash Flow Lending
Before committing to a business cash flow lending arrangement, there are a few important factors to consider:
1. Assess Cash Flow Stability
Businesses should evaluate their cash flow stability to ensure they can meet the repayment terms. It’s important to accurately determine how much your business can realistically borrow.
2. Understand the Loan Terms
It’s important to understand the terms of the loan, including interest rates, repayment schedules, and any associated fees. Businesses should be aware of how much they will be paying back over the life of the loan and how these payments will impact their cash flow.
3. Consider Other Financing Options
While cash flow lending can be an attractive option for some businesses, others may find that asset-based lending, equity financing, or even traditional bank loans offer better terms based on their circumstances. Comparing options can help businesses make the best financial decisions.
4. Plan for Repayment
Businesses should have a clear plan for how they will repay the loan. This includes setting aside sufficient revenue for repayments and ensuring that cash flow projections are realistic.
5. Seek Professional Help
With the many options available, it’s beneficial to call on the help of loan experts to help you narrow down your choices. Experts can help match your needs with the right loan products and lenders to ensure your business needs are met.
To Sum it Up
Cash flow lending offers a flexible and convenient financing solution for Australian businesses. It allows companies to access the funds they need quickly and efficiently to cover cash flow gaps. However, business owners should be aware of the potential downsides, such as the potential for overborrowing, and carefully assess their financial situation before pursuing this option.
Get a Cash Flow Loan for Your Small Business
If your business is in need of cash flow support, we can help you find the right loan and lender to meet your needs. We’ll make sure to get you the best rates and terms and work within your required timeline.
