Understanding working capital needs is one of the keys to unlocking the growth potential of a business (forecasts of profits and cash are also important) but being able to access enough working capital can be tricky.  Traditional lenders want security, preferably property, to secure a business loan, so if property is not available, SME's can be locked out of finance.  But, there are solutions!

What exactly is Working Capital?

The working capital of a business is calculated by deducting its current liabilities (amounts payable within 12 months -  including accounts payable, accruals, taxes, loan repayments, etc) from its current assets (stock, accounts receivable, bank and cash).  It is a measure of efficiency and short-term financial health; in monetary terms it shows how much free cash a business has to meet its regular operating costs.

It is often shown as a ratio:  current assets divided by current liabilities.  A ratio of 1.0 to 1.0 means the business should be able to adequately meet all of its short-term obligations.  However, most analysts (lenders) will want to see this number slightly higher (say 1.2 to 2.0) which shows a cash cushion against unexpected costs and funds for reinvestment of growth.  A ratio below 1.0 can indicate current assets are insufficient to cover short-term costs, so more cash is required to bridge the time between debtor collections and payments to suppliers and for cost.

Is this New or Common?

SME's are under increasing pressure.  Some recent research:

1. XERO found in most months that about half of all small businesses are cash flow negative, where more money leaves the business than it receives.

2. Cash flow is particularly difficult from late December to February (holiday pays, superannuation, tax payments, the holiday period shutdown, supplier payments for additional stock needed, etc.).

3. Digital Finance Analytics' survey showed the average debtor collection period exceeds 60 days, and this has been rising each year.

4. Around 66% of SME's don't have sufficient equity in property, and 57% of SME's would seek more working capital if they could.

5. Unsecured loan applications have a 74% rejection rate from major lenders, up from 67% last year.

6. The biggest 'cause' of bankruptcies in the last financial year was ATO applications.

When to get a Working Capital Loan

These loans are not for investments, expansion, refinance, or long-term asset acquisition, but rather to cover short-term needs like covering accounts payable, wages, tax payments, seasonal needs, quieter sales cycles.  Examples are:

- To Pay Employees

During quieter periods, cash for wages, superannuation, holiday pays, or perhaps long service leave or a redundancy.

- Short Term Inventory

Extra stock for an anticipated busy season, a special offer or larger than usual stock buy.

- Operational Costs in Quiet Times

Collections from debtors may be slow during quiet times, so additional cash may be needed to meet everyday expenses.

- Tax Payments

Catch up on Super or PAYG Withholding (Directors have personal liability for these so pay these first), pay GST, PAYG Instalments, and Income tax.

- Busy Times / Slow Debtor Collections

The cash flow cycle (time from purchase of stock to sale and finally collection) can increase if accounts receivable are delayed, so additional funds may be needed for supplier payments.

Cash Flow Lenders - Terms

There are many lenders besides the Banks, and they don't require traditional security like property.  The advantages are:

- Short time between application and settlement (just days)

- Flexible in both loan terms and funding amounts (usually $25,000 to $250,000)

- No hidden costs, reasonable interest rates

Loans (roughly) are calculated as the average of 1 month's turnover in a six month period.

Because the borrowings are not for acquisition of long-term assets, repayment terms tend to be shorter (generally, from 3 months up to 3 years).

Requirements

Lenders have an algorithm that they use to determine repayability and the possible amount available.  However, this is the process we work through to assist clients with an application.

1. Make sure this is the sort of loan you need, (perhaps trade finance may be more suitable to buy or import inventory and manufacture, or buy in larger quantities; or a line of credit for stock acquisition; or factoring of accounts receivable).

2. Ensure financials are reasonably up to date, and bank statements for up to 12 months are available.

3. Prepare a Forecast of Profits and Cash for a year, to help determine your overall needs. (see 1)

4. Requirements include ABN, in business for a year (this can vary), average monthly sales consistent with the loan needed.

5. Develop a Strategy/Plan to manage working capital going forward, and retire debt.

Happy to talk about unsecured loans, just call or email me.