What You Need to Know
If your business revolves around selling product, you’ll obviously need inventory.
You may sell ready-made products, or buy parts to make the product you sell. Or you may make the parts, then sell them to others to make their products.
Wherever you are in the supply chain, you need supplies – and supplies cost money.
No matter how strong a margin you make on everything you sell, you have to lay out for the stock up front before you can sell it to recoup the cost.
There may be times when you simply don’t have that cash on hand. In fact, there are several reasons why an inventory loan might be useful for your small business.
Before we start, let’s cover the basics
What is inventory finance?
Inventory finance is a form of loan that is secured on the stock you own but haven’t yet sold.
It’s a way to leverage the unsold inventory you have sitting in a warehouse to help you access extra cash. It’s especially popular with wholesale, retail and restaurant businesses, which generally have large quantities of stock on hand.
By offering that stock as collateral for a loan, you’ll present less of a risk to a lender than if you apply for an unsecured business loan. This lower risk could help you to secure a loan at a better interest rate, or you may find you can qualify for a loan with a less-than-perfect credit score. Inventory finance is generally quicker and easier to apply for than some other forms of business loan.
Having said that, the lender will need to be satisfied that you can sell that stock and repay your loan, so you’ll probably need to show them proof of the stock’s value and show that the stock is in good condition, is still marketable (not obsolete) and is being stored with care.
In most cases, you’ll only be able to borrow against a proportion of your inventory, not the entire amount. E.g. if you have inventory worth $30,000, you may be able to borrow up to $20,000.
So why do businesses like yours take out inventory loans?
Five great reasons to take out inventory finance
1. You have a good regular cash flow to cope with normal trade, but your busiest time of year is approaching and you have to get ready.
Your bumper trade months may bring in the lion’s share of your annual turnover – but only if you have enough product on hand to meet all your customers’ demands.
It’s unlikely you’ll be able to hold off paying for the additional stock until you’ve made all those extra sales – so an inventory loan could be the tool you need to make sure your shelves are filled in readiness for the shopping boom.
2. Business is booming and demand is greater than supply. You may have an exciting new customer who wants more than you’ve ever supplied before.
You’ll need to place a bigger order with your suppliers so you can scale up your operations – or even form a relationship with a new supplier so you can meet the growing demand. Again, the extra sales will translate into a healthy cash influx down the track – but in the meantime, you have to cover the up-front cost of buying in extra stock, and an inventory loan could help you.
3. You’re ready to branch out and manufacture or provide a new product.
Inventory finance could give you the resources you need to stock up ready to launch your new product line, without forcing you to divert funds from buying in your tried and tested products.
4. You have to finance a lengthy gap between paying your suppliers and being paid by your customers.
Offering credit terms to customers could be a powerful competitive advantage, but in the meantime your bills will keep coming in. An inventory loan can be a useful tool to bridge the gap.
5. Your suppliers are offering an amazing deal on bulk stock purchases (or a competitor is closing down and having a fire sale on unsold stock).
You could give your sales margin a hefty boost, but only if you can find the extra cash to snap up the bargain stock. (Don’t forget, though, that you’ll need to store the additional stock until you can sell it, which may erode your profit margins!)
By the way…
So far, I’ve focused on reasons why you might need funds to buy inventory. But I’ve got news for you.
Inventory loans aren’t just for buying stock!
You can actually use inventory finance for pretty much any business purpose. As a secured loan, it can be quicker and easier to access than other forms of business finance.
Whatever the reason you need extra funds, you’ll need to know what your options are.
Here’s the low down.
Types of inventory finance
Unlike the old days, there are inventory loan options for all types of businesses, including small businesses. You no longer need to be at the big end of town to qualify if you need cash.
Here are your main options:
In most cases, your stock will be the only collateral for your loan. You may be using existing stock, or pledging the inventory you plan to buy with the loan. Either way, you can expect to borrow a proportion of the stock’s value, not the full amount.
The loan will be for a fixed period, generally up to a maximum of 18 months. The shorter the term the less you’ll pay in interest, so it makes sense to tie it to your anticipated stock turnaround. Having said that, the last thing you want is to have to repay it before you’ve sold the stock, so be sure to leave yourself a buffer.
You may be able to borrow up to $1 million against inventory, but this will of course depend on the value of the inventory and on the lender’s assessment of your business.
If your credit rating isn’t great, your market is volatile or the lender feels your business is risky, they may ask for additional collateral to secure your loan. Obviously, if this is the case, you’ll only be able to apply if you have some other assets to offer as security. Remember that you won’t be able to upgrade or dispose of those assets without the lender’s permission until you repay your inventory loan.
An inventory loan is generally a one-time deal – you borrow an agreed upon amount and pay it back in instalments, with no opportunity to redraw funds.
Inventory line of credit
A line of credit, on the other hand, is a form of revolving credit secured on your stock. Also known as Floorplan Finance, it’s another short-term finance option you can use for purchasing your inventory (or for other business purposes).
This option is more commonly used for high cost items, which would put a real strain on your cash flow. The way it works is that the lender pays your supplier for the inventory you need and you make repayments when the inventory is sold. When you need more inventory, the cycle starts again, hence the ‘revolving’ line of credit.
Car dealers are big users of this type of finance. The huge benefit? It doesn’t strain your cash flow.
Ok, so know you know the ‘why’ and the ‘what’, let’s look at the ‘how’ – starting with the burning question:
Do you qualify for inventory finance?
There are a number of criteria you’ll need to meet to get inventory finance.
First up, you must have an Australian registered business with an Australian Business Number (ABN)
Your business will need a track record of successfully selling your product, so if you’re a brand new start-up you probably won’t qualify just yet. Most lenders require the business to be trading for at least six months
You’ll need to show evidence of your turnover, so expect to be asked for your bank statements and tax returns. Why lenders need your bank statements. You’ll also need a credible valuation of the stock
A reasonable credit rating. Some lenders may be willing to work with you even if your credit record isn’t spotless, but you can expect to pay more for your finance (because it’s more risky for the lender) and you may also be asked for additional security. Read more about bad credit finance
The type of industry you are in could work against you – for example if your sales are highly seasonal or your earnings are erratic. If your stock mostly consists of perishable goods or items that can quickly become obsolete (like technology), that could also be a be a hindrance
However, there are several lenders who specialise in particular industries, so do your homework and look for a lender who is a good fit for your business.
What do you need to apply for inventory finance?
Preparation is critical!
The paperwork will depend on the lender.
Banks are more likely to ask for detailed financial records, while some FinTech lenders may have less stringent requirements.
Hopefully, you keep your accounts up to date, because you may be asked for your balance sheets and P&L statements for the last two years, as well as your bank statements and tax returns.
If you’re operating as a sole trader you may also need to supply your personal tax returns.
In addition, you can definitely expect the lender to want:
- An up-to-date inventory list
- Inventory turnover records, which show the frequency and value of stock you’ve sold. You’ll need to provide detailed and consistent records
- A realistic sales forecast. This is crucial, to show the lender what you plan to achieve and how soon you are likely to be able to repay your loan
By the way...
Lending can be a risky business, so the lender may well want to conduct an independent audit before going ahead. They’ll probably look at a number of factors as part of the process of valuing your stock – including trends within your market, how safely you store your stock, and what your competitors are doing.
Unfortunately, an audit may value your inventory at a lower value than you expect, which could have a big impact on the amount you can borrow.
If you decide that inventory finance is for you, there are a few things you need to think about before you take the plunge.
Let’s take a look.
What do you need to consider with inventory finance?
There are a number of criteria you’ll need to meet to get inventory finance.
Fees! This is a biggy, as inventory finance can be an expensive type of business loan. Make sure you know what the fees are and how often they occur. Some lenders may just charge a fee to set up the facility, while others will charge ongoing fees (especially for a line of credit)
As with any loan, interest rates. These will vary, and could be fixed or variable depending on the lender. Do your sums, understand your limits and be sure to consider how you’ll manage if interest rates rise
Terms and conditions. Again, as with any type of business borrowing it’s absolutely critical that you read the fine print and make sure you understand the T’s and C’s. If you don’t, be sure to get advice before you commit. In particular, you may need to build in some flexibility around your repayments, to give you a buffer in case your sales fluctuate
Don’t overestimate. Whichever option you choose, inventory finance can be expensive. You’ll need to be confident that you can sell your inventory in time to repay the loan. If you can’t, you could be left in the horrible position of having a warehouse full of worthless stock AND a hefty loan to repay
Even if something goes wrong, you’ll still have to repay your loan – so make sure you have good insurance cover for your inventory, to protect you against theft or damage
Inventory finance is a form of business loan secured on your unsold stock, which makes it a valuable tool for retail, wholesale and restaurant businesses.
You can use an inventory loan to buy stock, or for any other business purpose. It enables you to leverage your inventory to give you access to extra working capital. And because it’s lower risk than unsecured business loans, it can be easier to access than other forms of business finance.
Managed well, an inventory loan can be good for your credit rating, and will help you keep your stock levels healthy, your sales flowing and your customers happy.
As with any form of borrowing, there are risks. You’ll need to be sure you can make your repayments even if your sales fluctuate, and have a plan in case your stock doesn’t sell as expected.