Companies may also have needs of different types, in a certain time or at different times. For example, a new department will push the company to ask for a starting loan, among other things, working capital and financing needs will be the need for new equipment.
1) Loan of goodwill
A new business requires an appropriate mix of equity and debt capital (to be collected by the latter, with long-term loans). The demands emerge from the budget of the cash flow and income statement, as well as the statistics relating to the sector of activity (available through trade associations, or at the bank). In this situation, you can specify all the details of the investment costs for the plants and for other fixed assets. It is important to strike the right balance between equity and debt capital: too much debt early, for example, reduces the possibility of future debts.
2) Working capital loans
After the initial capitalization, working capital is fed by the profit for the year, over the years. If your company is suffering a shortage of permanent working capital, but still produces a useful income, then it may indeed be the case of using a medium-term loan. However, you must show that it will reap greater profits far in excess of the charge that stems from new debt. Often a modest loan that increases in working capital makes the company overcome a temporary hitch and allows you to do much more useful movements than ever before. The effect of the loan on your company can be estimated from the budgets of cash flow.
Remember, though, that a loan needs to be repaid in a few years, with monthly payments, which weighs significantly on overheads. If the company does not generate additional revenue sufficiently enought to cope with these charges, with a margin of at least 50%, or better than 100%, then you should increase the equity instead of the debt.
3) Loan for new equipment and other fixed assets
The loans for the purchase of equipment and other fixed assets are of great importance for the correspondence between the loan, the need for funding and the source from which it is thought to derive liquidity for the return. This is normally secured by mortgage loans on the same equipment with the economic life of the latter, which has a large weight in the decision to resort to credit.
A rule of thumb is that large equipment that can be financed by the economic life of 10-year loans with a maturity of not more than 7 years and that is no greater than 90% of the value of the equipment. Suppliers tend to be very generous in credit sales, but you will have to keep prudent, for your own economic safety. If you are looking for loans or deferral periods longer than necessary, there is nothing wrong. This however is not the best solution. Do fiannce the company for five years, instead of seven, or maybe three, instead of four.
Loans for the purchase of equipment do not last nearly never for more than 7 years, but those for the purchase of property used for commercial activities can last for 15 years or even more, depending on the situation. Since it is over several years that you invest equity capital in the company’s equipment and property, you should be drawing from the profits, just as you should do with debt capital.
4) Seasonal stock loans
The financing of stocks is seasonal and occurs with short-term loans, which are connected to a precise source of liquidity for the return, as the conclusion of a contract, the sale of a certain good, or the replacement of stocks.
The short-term debts are covered by the cash flows from short-term sources, clearly identified prior to the granting of the loan.
The medium-term debts, however, are covered by the cash flows from the operations of the company, without a precise identification of the sources. Halifax offer loans and the bank looks at the background of the company in return for similar loans (and profit in recent years, or the ability to formulate and implement plans). It doesn’t indicate directly the source of liquidity for its return since the loan has a higher risk and the decision is more thoughtful, than the loan itself. Distinction is important: even if the company has a good credit risk in the short term.
5) Loan of long-term growth
The last type of bank loan has the purpose of the company’s growth over the years: growth that can create problems of working capital. The company that expects to grow quickly should also expect big risks.
With the increase in sales, liquidity decreases, because the receivable accounts are not welded with the speed necessary to pay the debts to suppliers. In addition, the productivity is reduced, with the recruitment of other staff. Additional space is needed for offices and warehouses, which is increases the administrative burden and the fixed costs. It is an inevitable process.
The solution usually is consisted of a combination of new equity, lines of credit secured by receivables and inventories, and long-term loans to support working capital. Think about the consequences: if you bet to expand, you have to make sure to generate profits, year after year, keeping at the same time enough fluids to meet the payments. To ensure liquidity, you have to provide for the funding of the expansion. But how?
Start by putting together a financial plan based on a budget of cash flow and profit and loss account on a budget well thought out.