How to Use Your Business to Finance Growing Your Business Borrowing against business assets are one way for small businesses to get the money they need to be bigger businesses.
By Ami Kassar Edited by Dan Bova
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When you launched your business, chances are didn't have too many options for borrowing money. It takes time to build up a credit score and lenders aren't willing to take a big risk on new companies. As a result, many new business owners turn to factoring their receivables when they need extra cash. If you've been in business for a few years though, you may be able to upgrade your financing plan. At this point, there's a natural progression to adding asset-based loans to go along with factoring.
The limitations of factoring.
With factoring, you sell off some of your customer invoices to a financing company, known as a factor. The financing company pays you for the invoice amount upfront, minus their fee, and then takes over collecting payment from your client.
While factoring is convenient, it can be a little limiting. You can only borrow to the extent that your business is making sales and collecting account receivables. If the only way to grow your revenues is by borrowing money to expand, factoring leaves you stuck. You aren't making the sales needed to borrow more but you can't make those extra sales without the additional financing.
Related: The Old-School Solution to Cash Flow Problems Hiding in Your Receivables
Advantage of taking out an ABL.
An asset-based loan could be your way out of this situation. In an ABL, you borrow money and then pay it back with interest, like a traditional bank loan. The key difference is that you're securing the loan with a valuable business asset, like your inventory or a piece of machinery. Most businesses don't own these assets when they're just starting out but it's likely that after a few years, you now have the resources to take out an ABL.
The key advantage of using an ABL is that you'll have access to more financing. Your borrowing won't be limited to whatever you have in unpaid receivables. This will free up significantly more money that you can use to expand your company. In some cases, you may also find that the borrowing costs are lower through an ABL than through factoring. This isn't always the case, though, so be sure to compare the numbers in both scenarios.
Related: 12 Things Your Business Loan Application Must Include
Considerations before taking out an ABL.
Now, there are some downsides to consider before taking out an ABL. If you're going to borrow money this way, you need to be sure you can handle the loan payments. If you can't make your loan payments, the lender could eventually seize your asset. Losing inventory or machinery when your business is already struggling would only make the situation worse.
You'll also be paying interest on the amount you borrow. Over time, this can add up to a significant cost and potentially hurt your bottom line. If you borrow money, make sure you have a plan to spend it productively and in a way that will put your company in a better financial position.
When used properly, though, ABLs are a valuable tool for your financing strategy. By combining an ABL with factoring, you should have access to the money you need to take your business to the next level.
Related: Are You Ready to Seek Funding? This 10-Point Checklist Will Decide.
