Choosing the right business financing solution is one of the most critical decisions small to medium sized businesses will make – especially early on in the business lifecycle.
Whether you’re needing to manage cash flow gaps, fund product or market expansion, or leave a buffer for unexpected expenses, choosing your approach to business finance is a decision that should not be made lightly. Why? Because this decision has the potential to make or break the business’ success. For Australian businesses, the financing landscape has changed drastically over the years (thanks to advancing technology and the introduction of “FinTech”), now offering a wide variety of options – each of which come with their own set of advantages and challenges.
In this blog, OptiPay explores the different financing options available to your business in hopes of helping you make an informed decision.
Understanding your Financing Needs
Before exploring the different options available to you, first you must assess your business financing needs. Each business faces a unique set of challenges, which arise from their sector and goals, so you must identify what you require from your financing solution to ensure it’s the right step forward.
Start by evaluating your business goals. Ask yourself; “why do I need financing?”. Is it to smooth out cash flow over slower periods, invest in new machinery/equipment or enter new markets? The purpose of your financing will influence which option will be best suited for your business. For example, if you are struggling with delayed invoice payments from clients and suppliers, than invoice financing may be the best option for you as it provides immediate cash without taking on new debt.
After you’ve uncovered your financing goals, you must determine your timeline and urgency. Do you need the funds quickly? Or do you have a cash reserve / cash runway for a few months?
For example, traditional business loans can take weeks or months, so if you have an urgent need for working capital, than this option is not best suited to you.
Now that you know your financing goals and have a rough timetable, you need to consider your ideal loan amount and repayment capacity. How much funding would you ideally like to receive? And can you afford the repayments? This is particularly important to assess when considering debt-based business financing options.
By carefully evaluating these factors, and considering your financial health well in advance, you’ll have a much clearer and cleaner approach to funding.
Overview of Business Financing Solutions in Australia
As mentioned, when it comes to business financing in Australia, small to medium sized enterprises (SMEs) have a variety of options. Let’s deep dive into different funding solutions:
Traditional Bank Loans
Australian banks like NAB, CBA and ANZ offer business loans that provide a large sum of money for financing large-scale investments, such as equipment purchases or product expansions. These loans are typically repaid over a fixed period of time with interest.
Bank loans are the traditional route of funding and have remained a popular business financing option in Australia, however, they often require strong credit history, collateral and comprehensive documentation. Because of this, the approval process can take several weeks.
Invoice Financing
Invoice financing continues to gain popularity amongst Australian SMEs, particularly in industries such as construction, labour hire, and manufacturing, where it’s extremely common to deal with long payment cycles. Through invoice financing, businesses can unlock up to 90% of the value of their unpaid invoices within 24-72 hours.
Because of this, it’s a preferred choice for businesses that struggle with delayed payments from clients or partners, are in need of quick capital and who prefer to avoid debt.
Business Overdraft
Many Australian banks, such as Westpac, offer business overdrafts that allow companies to withdraw more funds than their account balance. This provides a safety net for businesses needing short term cash flow support.
While overdrafts can be helpful in covering short term funding gaps, they are often associated with high interest rates and fees. Because of this, this financing option is best suited for emergencies or short-term needs rather than being leveraged as a long term cash flow optimisation strategy.
Asset Based Lending
Asset based lending allows businesses to secure financing using physical assets like property, inventory or equipment as collateral. This provides a funding source for businesses who have valuable assets but poor credit history. The main risk is losing assets (that are put up for collateral) if the repayments aren’t met.
This source of funding is great for businesses who need to fund large investments or expand operations but don’t want to rely solely on cash reserves.
Business Line of Credit
A business line of credit is a financing tool that allows businesses to access funds up to a pre-approved limit, as needed, similar to a credit card. This is useful for managing short-term cash flow fluctuations, purchasing stock or covering unforseen expenses. Interest is then charged on the amount drawn, making it more cost-effective than a bank loan.
Yes, this financing option is similar to a business overdraft, so here are the differences:
- A business line of credit is pre-determined and requires more financial documentation to establish
- Because of the additional security measures in establishment, a business line of credit typically changes less interest on overdrawn amounts than a business overdraft
Trade finance
This funding solution is tailored for businesses who are in the importing and exporting industry. Trade finance allows businesses to manage their working capital and pay suppliers before receiving payments from customers, ensuring smooth trade operations (both nationally and internationally) and mitigating risks associated with fluctuating currencies, supplier delays and supply chain distributions.
Factors to consider when choosing a financing option
When it comes to business financing, what works for one business may not work for another. Therefore, when assessing your options, you should evaluate the following factors to make sure you make the best decision for your needs.
Cost of Financing
The cost of business financing varies depending on which of the above solutions you choose. You need to consider the cost of interest and fees – be sure to look closely at hidden fees! Traditional loans often come with lower interest rates but can include hidden fees.
Flexibility and Repayment Terms
It’s essential that the funding solution you choose provides you with flexibility, especially if your business experiences fluctuating cash flow. For example, invoice finance offers flexibility because the repayment is linked directly to customer payments, eliminating the pressure of fixed monthly repayments.
Approval Process
In most cases, the speed of obtaining funds is a deciding factor in which funding method businesses adopt. Traditional bank loans can take weeks, while modern methods such as invoice financing or trade finance can provide working capital quickly. Then again, if you require an upfront, large sum of working capital, you naturally will allow yourself more time to gather the cash required and the time-to-approval is less significant.
Eligibility Requirements
Traditional lenders (ie Banks) often require high credit scores and comprehensive financial documentation. With asset-based financing, you will require valuable assets. Whilst there are an array of options, you may not be eligible for them all.
Impact on Cash Flow
The right funding solutions should align seamlessly with your cash flow strategy. Be sure to evaluate what financing solution will be best suited for your business long-term (more on this next).
Matching financing options to business scenarios
In order to choose the funding solution, or business financing option, best suited to your operations, you should align your choice with your specific business needs. So, here are a few example situations you can refer to when making your decision.
Managing Cash Flow Gaps
For businesses struggling with late client payments, invoice financing is the ideal solution. By unlocking your accounts receivables, you can access immediate cash without adding debt to your balance sheet.
Funding Long-Term Growth
If your goal is to expand your operations, purchase equipment, or invest in new markets, a traditional bank loan or asset-based lending may be more suited to your needs. However, make sure that your cash flow can cover your repayment terms!
Covering Seasonal Inventory
Retailers and seasonal businesses often experience cash flow fluctuations due to changes in demand. In this situation, invoice financing or a business line of credit may be best suited in helping you achieve ideal inventory levels during peak seasons.
Quick Access to Emergency Funds
To cover unexpected expenses or when managing emergencies, fast-access financing options such as invoice financing or merchant cash advances may be the best option.
Blog in Summary
Choosing the right business financing solution is a critical component of maintaining a healthy cash flow and ensuring financial stability. By understanding your needs, evaluating the options available to you, and matching them to your business goals, you will be able to find a funding solution that supports your growth.
