Working Capital Loans

Matching Repayment to Your Cash Cycle

The structure of a working capital loan matters as much as its price. A few points to weigh:

• Payment frequency. Daily or weekly payments can strain a business with lumpy revenue. Monthly payments are easier to plan around.

• Term. The loan should be repaid as the cycle turns over. If inventory sells within 90 days, a five-year term for that purchase is longer than the need.

• Revolving vs. fixed. Recurring gaps usually suit a line of credit. One-time needs suit a short-term loan.

• Seasonality. Some lenders will set lower payments during slow months if you show a predictable seasonal pattern.

Qualifying and What to Prepare

Banks and SBA lenders typically review tax returns, financial statements, an accounts receivable and payable aging report, and a debt schedule. Non-bank lenders often focus on several months of bank statements and may decide within days.

Across lender types, the strongest applications show steady revenue, receivables from reliable customers, a clear explanation of the gap and a realistic plan for repayment. Expect most lenders to ask for a personal guarantee from the main owners.

Risks to Watch

• Covering losses. Working capital loans work best for timing gaps. If the business is losing money each month, borrowing delays the problem and adds a payment.

• Renewal dependence. Rolling one short-term loan into the next can become a long-term habit with short-term pricing.

• Stacking. Taking several short-term products at once can leave too little daily cash to operate.

• Variable rates. Many lines of credit float with a benchmark, so payments can rise.

Frequently Asked Questions

Is a working capital loan the same as a line of credit?
Not exactly. A line of credit is one type of working capital financing. The term also covers short-term loans, invoice financing and other short-cycle products.

How much can I borrow?
It depends on revenue, receivables, credit and the lender. Many non-bank lenders size offers as a share of monthly revenue, while banks look at overall cash flow and collateral.

Are working capital loans tax deductible?
Interest on business debt is often deductible, but the rules depend on your situation. Ask a tax professional how they apply to your business.

Keep Your Operations Funded

Knowing your cash conversion cycle, your seasonal pattern and your real funding gap puts you in a strong position to choose working capital financing that fits. Compare a few options on total cost, payment frequency and flexibility before you commit.

A working capital loan is short-term financing used to pay a company's everyday operating costs, such as payroll, rent, inventory and supplier bills, when cash coming in does not line up with cash going out. It is not meant for buildings or long-life equipment. Its job is to keep the business running smoothly through timing gaps, seasonal swings and growth spurts.

Profitable companies use this kind of funding all the time. A business can be booking strong sales and still run short of cash if customers pay in 60 days while suppliers and staff need to be paid now.

What Working Capital Means

Working capital is current assets minus current liabilities. Current assets include cash, accounts receivable and inventory. Current liabilities include accounts payable, short-term debt and accrued expenses due within a year.

Positive working capital means short-term assets cover short-term bills on paper. In practice, much of that value may be tied up in unpaid invoices or stock on the shelf, which cannot cover this Friday's payroll. Short-term financing turns some of that tied-up value into usable cash.

Sizing the Gap: The Cash Conversion Cycle

A useful way to estimate how much you need is the cash conversion cycle: the number of days between paying for inputs and collecting cash from customers.

Take a hypothetical distributor that holds inventory for 30 days, collects from customers in 60 days and pays its suppliers in 30 days. Its cycle is 30 + 60 - 30, or 60 days. If its cost of goods runs about $2,000 per day, roughly $120,000 is tied up in the cycle at any given time.

That figure is a starting point for sizing the request. Borrowing far beyond the real gap adds cost without adding much benefit, and borrowing too little can leave you short at the worst moment.

Forms of Working Capital Financing

• Short-term loans. A lump sum repaid over several months to a couple of years. Useful for a defined need, such as a large seasonal inventory order.

• Business lines of credit. A revolving limit you draw and repay as needed. Often the best match for recurring gaps, since you pay interest only on what you use.

• Invoice financing and factoring. Advances against unpaid customer invoices, which ties the funding directly to receivables.

• SBA 7(a) loans. Short- and long-term working capital is an eligible use of 7(a) proceeds. SBA rules generally limit working capital maturities to 10 years, and the SBA also supports lines of credit through its CAPLines and Working Capital Pilot programs.

• Revenue-based products. Cash advances repaid from a share of future sales. Fast to obtain but usually among the most expensive options.

Using SBA Programs for Working Capital

For businesses that qualify, SBA-backed working capital financing is usually cheaper and longer than non-bank alternatives. The SBA's Working Capital Pilot program supports lines of credit of up to $5 million, with maturities of up to 60 months and an SBA guaranty of up to 85% for loans of $150,000 or less and up to 75% for larger loans.

Rates on 7(a) loans are negotiated between borrower and lender but capped by the SBA. For variable-rate loans, the caps range from a base rate plus 6.5% on loans of $50,000 or less down to a base rate plus 3.0% on loans above $350,000. The trade-off is time and paperwork, since SBA loans ask for more documentation and take longer to close.