Canadian business owners and financial managers focus on the term ‘inventory loan ‘when they want to address this balance sheet component for additional working capital and cash flow.
While it is possible to get an inventory loan the reality is that more often than not inventory financing is a critical component of additional working capital facilities.
Let’s examine some key aspects of inventory financing and determine how you can access this unique type of financing. For starters, when you are successful in financing inventory you are in essence freeing up the cash that is tied up in that critical part of your balance sheet. When we talk to clients about working capital and cash flow financing in general the term ‘cash conversion cycle’ is one on which we place critical importance. It may sounds like a text book finance definition, but the reality is that it’s simply the formula for determine how one dollar of capital flows through your business. And that dollar of capital usually in fact comes from the initial purchase of inventory. This is in turn converted into accounts receivable, which are (hopefully!) collected and turned into cash.
The amount of time that dollar stays on your inventory line is a key part of the cash conversion cycle.
You should focus on inventory financing when in fact your investment in this balance sheet category is significant, often only rivaled by accounts receivable. We have worked with many firms who in fact have to carry more inventory than A/R. That becomes a financing challenge.
Naturally traditional financing institutions such as chartered banks don’t place a lot of reliance in their lending on their ability to secure and dispose of this type of asset. The reality is that your inventory might be in the form of raw materials, work in process, or finished goods. Depending on the lenders knowledge of inventory the ability to margin or finance that inventory becomes limited.
Inventory financing on its own tends to be a challenge – it is not impossible in some circumstances. The reality is though that inventory financing works best when it is tied to a full working capital or asset based financing facility that covers the inventory itself, your receivables, and in some cases supplemental assets such as equipment or real estate .
As a cautionary note we must add that for your inventory to be financing you should be able to demonstrate that it ‘ turns ‘ , and that there is only a very small per cent age of obscelescence attached to this asset category . You can quickly determine how fast inventory turns by going to your income statement , taking your ‘cost of sales ‘ line , and dividing it by ‘ inventory on hand ‘. So what is a good turnover number? The answer is that it depends on overall industry benchmarks for your type of business. A grocery store might turn over their inventory many many more times more often than a manufacturing company with a complex builds process.
We should also add that inventory becomes more financeable when you are running a perpetual inventory system and you are able to demonstrate you have a solid handle on what is on hand , and provide reporting in that regard .
Speak to a trusted, credible, and experienced financing advisor in this very specialized area of business financing – that will allow you to determine if your inventory is currently properly financed, and, if not, what financing options are available.