This guest article is written by James Sinclair from Trade Finance Global.
Only last week, the International Chamber of Commerce announced a huge shortage of trade finance, which is deemed one of the biggest sources of funding for small and medium enterprises (SMEs), an industry estimated to be worth over £3 trillion per year.
If you thought personal finance was complicated, try commercial or business finance.
Businesses want to grow, to create more jobs, go international, and make more profit. But given today's landscape of complex trade tariffs, legislation in different markets, and lengthy payment terms from big customers, working capital problems are common in small businesses. "Nearly three quarters of small businesses report that they have been paid late in the past year, placing a huge strain on cash-flow and meaning they struggle to realise ambitions to grow," said John Walker, the chairman of the Federation of Small Businesses, in a recent survey.
The good news is that business funding is being turned on its head, particularly as a result of a cutback in lending from big financial institutions and banks due to Basel III regulation. It means that banks cannot leverage the amount that they lend as much as they used to, meaning commercial finance, often deemed as 'high risk', has been on the decrease.
Fortunately though, alternative financiers have been quick at stepping up to the mark and servicing the needs of small businesses - offering short term loans, approving overdrafts in minutes rather than months, and listening to businesses that need finance.
We have put together a five-point plan for any businesses looking for commercial finance:
1 Do your due diligence and plan
It might seem obvious, but we can't stress it enough.
KYC, also known as 'know your customer', could help prevent wasting time. Understanding your customer’s needs, being aware of previous reputation (e.g. County Court judgements and if they're known for paying late) could be the deal breaker.
Nowadays, there are quite a few inexpensive or even free tools that businesses can use to do their due diligence on their partners. Sites such as Company Check offer free due diligence sources on companies and company directors, and simple Google searches, and searching social media / Trust Pilot reviews and previous press on Google News are no-brainers which can help give you an indication on the reputation of your customers.
2 Know the difference between debt and equity (and secured and non-secured)
Broadly speaking, there are two types of commercial finance - debt funding and equity / angel investing. The former normally uses some form of security to offer finance, which is payable plus interest; the latter involves taking a share of a company or business in return for cash. Often we see that equity backed SMEs burn through a lot of cash as they grow, when in fact they may have been able to use debt finance to bridge certain gaps and let their equity money last longer.
As an example, an SME selling widgets to other businesses raised angel investment to produce and sell widgets, although it found that it was quickly running out of cash whilst servicing customers who wanted the product on lengthy payment terms.
To ensure employees and equipment costs were paid, the business had to say no to new customers until that customer paid. This is a very common problem, and a more innovative efficient finance solution could involve 'securitising' the asset, that is, a purchase order or invoice and offering a debt finance facility instead, such as invoice factoring. This means that the company has cash in the bank, to serve real needs such as paying staff and maintaining cash flow.
3 Be on top of your company payment terms
The accounts payable team are responsible for ensuring speedy payment, but all too often, we see SMEs running into financial difficulty. Cloud accounting software is designed to automatically send out invoices, reminder invoices, and track Payments being received to cut out the day-to-day hassle.
An accounting team should really be focusing on speedy efficient payments and identifying which customers are the slowest. That way, they can start thinking about late payment penalties, better cash terms (e.g. 30 days rather than 60-90 day payment terms) and maybe even looking for alternative customers.
4 Consider using a broker
If your company is raising business finance, it might be worth speaking to a broker of finance to make sure you find the most appropriate deal and work on your behalf whilst you run the business.
Commercial finance are experts in their field, and because they also have a wealth of knowledge and an established network of funders, they can not only scour the market (saving you what we think of as a full time job), but also negotiate on your behalf.
5 Hedge your currency
As a result of the Brexit , foreign exchange rates have been at their most volatile for several years, with the pound at more or less a 31 year low against the dollar, and at a 5 year low against the euro.
This has however created great opportunities for UK exporters. With purchasers being able to now buy goods at more competitive prices, initial UK export data has been compelling.
It goes without saying really; by planning meticulously and staying close to the detail, understanding charges and knowing your customer, you can prevent running into working capital and cash flow difficulties in the medium to long term as you’re building your small company into a sustainable larger enterprise.
