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Is accounts receivables factoring right for your business’ lifecycle?

by Michael Rom , December 26 2018

While many of us are familiar with concepts like lifecycle investing when it comes to our personal lives – we often invest in less risky assets as we head closer to retirement – often business owners fail to apply lifecycle thinking to their business.

The downside to this is that business strategy is often not updated as a business grows, causing owners and executives to miss opportunities for cost reduction or better organisational management. And while it is widely understood that a strategy put in place when a business launches will not be as effective once the same business is more mature, many business owners caught up in the day-to-day mechanics of running a company, fail to address this.

Business lifecycle stages

There are 5 typical stages to every business;

  • Seed
  • Startup
  • Growth
  • Mature
  • Decline

Depending on a number of factors, ranging from your competitive position in the market, your growth ambitions or the saturation of your services in a particular segment, your business may lean towards either the growth or mature stage of the lifecycle more heavily.

However, if your business operates multiple product lines, or regularly launches new services, you may fluctuate between the two. Ultimately, if your business is positioning to be acquired, or you seek to return profits to private or public shareholders, you will most likely be continuously seeking growth opportunities wherever possible, to maximise future returns and hedge against new competition.

Why lifecycle thinking matters when funding your business for growth

Good lifecycle strategy can be applied to a myriad of areas in a business, including financing. In fact, a funding strategy is most important in the early days of your business, when access to cash is paramount. This is because initial revenues are unlikely to support all your outgoings and set-up costs, as they would in the mature phase of the business lifecycle.

When thinking about a funding strategy for the early stages, the track record of your business is a key factor. Like it or not, this plays a large role in your ability to access finance.

It is not uncommon for traditional lenders to refuse to extend credit to businesses who have not passed the 1-year milestone of ‘being in business’. This is because the failure rate of startup businesses during this period is so high. Traditional lenders have no shortage of businesses applying for finance who have already passed this bar. Based on this, then viewed through a bank’s commercial and risk lens, mature businesses are a far more attractive proposition than the seed and startup end of the market. So credit flows to mature businesses far more frequently.

If your business strategy can only get off the ground through external funding, and you have no access to personal funding, be that debt or savings, then this will be problematic. Ideally, you should be able to support and finance the operations of your business for at least 6 to 12 months. These fundamental considerations for your funding strategy have a direct impact on your business strategy, and the way these two areas interlink will continue to be central to your business going forward.

However, once you move into early-stage revenues and have a number of clients on board, then using your personal balance sheet and credit should be a last resort. Instead, now your funding strategy should consider other funding options, like accounts receivable factoring, a form of debtor finance.

 

What is accounts receivable factoring and why should I consider it over traditional finance?

Accounts receivable factoring allows you to leverage your invoices to access capital. Once an invoice is received, a factoring company will extend your business a fixed percentage of the total amount, in advance of the client’s payment.

During the early growth phase, maintaining consistent cash flow is paramount. Any funding strategy you have now should provide you with the flexibility to dip in and out of credit when you need it. Unlocking capital from invoices with long payment terms, that could throttle or strangle your business allows you to smooth cash flow, and make it through to the late growth or mature lifecycle stage.

If you’ve only been operating for a short period of time, your business may still have a thin credit file. This can limit your chances of accessing bank loans. Factoring businesses are more inclined to look at the credit strength of your clients when making a decision as to whether to extend you debtor finance. In this sense, in the early days, debtor finance can trump slightly more affordable but significantly harder to access bank finance.

Read more here on how debtor finance and supply chain finance differ to traditional business finance.

Smart funding strategies should have an eye to the future

Tapping into debtor finance early on means you can establish a track record of making timely payments early on in your businesses lifecycle. This is important in ensuring your business’s track record of payments is watertight – future credit decisions for other types of funding will depend on this heavily. And remember – the relationships you have with your suppliers and your early stage employees will also rely heavily on the reliability of your payments.

Funding strategies can’t be set and forget. Just like your business, you need to work on them every 6 to 12 months. If you’d like to discuss what funding strategies are right for your business, book in a call with our team of business lending experts today.

 


Blog

Michael Rom

Michael has extensive experience in business finance from seed-stage through to enterprise businesses.

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