Business / Inventory Financing
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What is Inventory Financing?
X Bill Herrfeldt Bill Herrfeldt specializes in finance, sports and the needs of retiring people, and has been published in the national edition of "Erickson Tribune," the "Washington Post" and the "Arizona Republic." He graduated from the University of Louisville.
By Bill Herrfeldt, eHow Contributor
Print this articleWhen a company borrow money from a lender like a bank and secures it with its inventory, it is called inventory financing. Companies do this to free up cash that otherwise would be tied up in inventory. This is only available to companies that have inventories tangible items--- physical things that can be touched and felt. Companies in service industries or those that sell their knowledge do not have the luxury of financing an inventory.
For a company to finance its inventory, it must have good credit. A lender needs to know that the company will pay the loan back and not force it to own the inventory. Typically, a company has a relationship with a bank to begin with, and that bank knows whether the company has good credit, or not.
Any time a company is ready to manufacture more goods while it has a lot of inventory ready to ship to its customers, it may want to finance its inventory to buy raw materials. Also, many companies, such as retailers, keep a lot of inventory on hand to facilitate sales. When a company has a great deal of money invested in the inventory, it cannot buy anything else either until the inventory is sold, or it secures inventory financing.
If a company has a lot of inventory that is either old or difficult to sell, inventory financing probably is not a good idea. Borrowing money and paying interest on it can compound the problem in a situation like that. In that case, it is better to sell off the bad inventory and start fresh rather than borrow against it.
Before applying for an inventory loan, it's important to take a comprehensive inventory of the product on hand. Lenders sometimes require that the inventory be appraised by an outside source. In addition, lenders may require up-to-date statements that reflect business growth and demonstrate ability to make payments. Lenders sometimes also ask for additional collateral to secure a loan.
With inventory financing, lenders often offer companies lines of credit so that can be drawn down as necessary. But most lenders require borrowers to pay off that line at least once each year, and not use the line for at least thirty days. Furthermore, if there is a lot of money at stake, the lender may do a spot inventory from time to time to make sure that all collateral is intact.Read more: What is Inventory Financing? | eHow.com
Question: What is Inventory Financing? How Does Inventory Financing Work?
Inventory financing uses inventory as collateral for loans. Inventory financing is used by manufacturers of consumer products and by dealers (including automobile, truck, RV, motorcycle), because they have significant amounts of money tied up in their inventory.
How Does Inventory Financing work?
Let's say a car dealer wants to increase inventory. The dealer must purchase the inventory from the car manufacturer, but vehicles are expensive. The dealer gets a loan from a financing company like GMAC, based on the value of the cars. When the car is sold, the dealer can pay off the portion of the loan related to that car, or purchase more inventories to sell. As you can see, inventory financing is part of the production cycle of buying, making, and selling. Inventory is less liquid than accounts receivable, so you will not be able to get full value on your financing.
When to Consider (and Not Consider) Inventory Financing
If your inventory selling well and you are in need of more money to keep selling, you may want to consider inventory financing. I:f your is out of date or not selling (you have slow turnover), it may not be wise to attempt inventory financing, because you may not find a willing lender.
What Else Is Needed for Inventory Financing
As with other forms of financing, you will need a good credit record, a compelling business plan, and a list of the inventory you want to finance, along with values. The lender will give you an estimate of how much you can borrow on the inventory.
While your inventory is waiting to be sold, you will need to keep track of it and make sure it is in good repair and in shape. Your lender has the right to inspect the inventory to make sure it has retained its value.
Raise Cash for Working Capital With Inventory Financing
•Small Business Inventory
•Car Loan Finance
If a small business goes to a bank for a loan to finance their working capital and the bank says no, the business doesn't have to give up. If the business produces products and has inventory, it can use inventory financing to raise money. Inventory financing is more expensive to the business than a bank loan. However, inventory financing can be used to supplement working capital needs, including cash needed for import and export financing.
Blanket Inventory Lien
One form of inventory financing is the blanket inventory lien. A blanket inventory lien is a loan secured by the firm's inventory. The inventory is, in effect, the collateral for the loan. This type of loan allows businesses to keep large amounts of expensive inventory on hand. The business could not afford to keep this inventory on hand on its own. The only way it can afford to have the inventory selection for its customers is to utilize this type of inventory financing.
Examples of firms that may use blanket inventory liens are those who sell inventory that is high priced and doesn't use move very quickly, such as luxury items.
Floor planning, also called trust receipts, is another form of inventory financing where the loan is secured by using the firm's inventory as collateral. It is a little different and more secure than the blanket inventory lien. Under floor planning, a lender loans the money for the inventory and the small business holds the inventory in trust for the bank. When the inventory is sold, the firm pays off the lender and keeps any profit. This type of inventory financing is a way that small businesses can afford to display a reasonable amount of merchandise.
An example of both a blanket inventory lien and floor planning might be a small specialty car dealership selling only one brand of vehicle such as the Jeep. The owner may find Jeeps that are in excellent condition and make improvements on them before resale. However, each vehicle is expensive and the only way the owner of the business can afford to carry this inventory is to take out either a blanket inventory lien or participate in floor planning, depending on their particular situation.
Field warehousing is the most secure type of inventory financing for the lender. Usually, a bank is involved in a field warehousing arrangement. The inventory of the small business is actually kept in a warehouse secured by the lender or a third party hired by the lender. When some of the inventory is sold by the small business, it is released from the warehouse and the lender is given a receipt and payment for the inventory. It is in this way that the inventory serves as collateral for the loan and the lender receives payment.
The portion of the firm's inventory actually used for collateral is segregated from the remainder of the firm's inventory. Because of all the parties involved in this type of financing, it is very expensive and should be used when other forms of financing are exhausted.
Understanding inventory financing is important for two reasons. First, small business owners need to be prepared to use one of these methods of inventory financing if necessary. Second, owners need to know they have options if banks say no to traditional bank loans or other financing arrangements.
Inventory financing is a bank line of credit secured by your inventory. By using inventory financing you your company can access to cash that would otherwise be allocated to purchasing inventory.
Who can use inventory financing?
If your a business that sells physical products and have good credit, you may be eligable for this type of financing.
How does inventory financing benefit you?
By leveraging your line of credit you turbo-charge your purchasing power. This reduces your limitations set by your current cash flow and allows your business to achieve its potential.
Start planning for greater growth and flexibility to expand your business, without the reliance on equity in property or restrictive traditional finance facilities.
Grow your business with more usable capital
Avoid tieing up working capital on inventory
Manage seasonal orders with eases
Use purchasing power to negotiate better terms
Pay only when you sell.
Satisfy orders above your means
How does this work?
To recieve a line of credit for purchasing inventory, you will first need to be approved by one of our lenders. Your approval is dependent upon on your credit and your annual sales volume. You will need to have gross revenues of $2 million or more annually to qualify.
Once approved, you will be able to immediately pay your suppliers from your line of credit all the way up to your approved amount. The size of your line will be dettermined base on your financial statetements.
For repayment, we have terms ranging from 30-120 days
To know how much financing you are capable of securing contact one of our financing specialists today.
What is Inventory Financing?
Inventory financing is bank line of credit secured by the company's inventory. This type of financing can help to free up some of the cash you have tied up in inventory for more pressing needs. Although not really available to pure startups as a track record of sales is required by the lender, the startup founder should be aware of this type of financing for later down the road.
Which Companies Should Use It?
Startups which can use inventory financing include:
those with tangible inventory (in other words, service business need not apply),
those with a proven sales history and good credit since lenders aren't really interested in taking possession of your inventory if you can't make your loan payments. For this reason startups need not apply.
When Does Inventory Financing Make Sense for a Small Company?
Inventory financing makes sense when:
when your company enjoys a high inventory turnover rate but is short of the cash needed to replenish its supply,
your small business has a warehouse of goods ready to ship, but is short of cash to buy supplies for the next production cycle,
when having to maintain high levels of inventory ties up much of your cash.
When is Inventory Financing Not Advised?
It's not a good idea when you have either obsolete or hard moving inventory. Why add interest charges to your problems?
Tips for Getting Approved
Demonstrate to lenders that you have a proper inventory management system in place which provides accurate and timely information on its size and cost.
Ensure that the inventory is protected from damage and shrinkage by either the elements or people, respectively.
Make sure your assets are maintained in good shape; your lender may require to inspect the inventory from time-to-time;
Demonstrate to lenders that the inventory is actually selling by showing sales order.
Show that you are managing your inventory as efficiently as possible by keeping the bare minimum on hand while maximizing the turnover rate.
Ingredients You'll Need on Hand
You will most likely need to provide:
an accounting of your inventory; your lender may require this to be audited or appraised by an independent third party,a basic financial package,an up-to-date business plan that shows your business is indeed on an upward growth spiral, indicating your ability to stay on top of loan payments,proof of sales orders showing that the inventory is moving, an additional form of collateral, such as a secondary position on a mortgage.
Drawbacks to Inventory Financing
Lenders will most likely need additional security in place to make sure that you are not disposing of the collateral improperly.
Most banks are not familiar with inventory financing which means that you will have to put in extra effort to find a banker who is comfortable with it.
The line of credit may have to be paid off in full every 12 months and then not used at all for one month.
If sales suddenly decline, two problems arise:
you may have to unload your inventory at a loss, thereby undermining your ability to stay current on your line of credit, and the interest on the loan may sap your ability to keep production on schedule.
High interest rates and other fees.
A loan made to a manufacturer using its inventory as collateral. Inventory financing is often used by manufacturers of consumer products, for whom inventory tends to form a significant percentage of assets.
Keep Product Moving And Cash Flowing
Whether you're a manufacturer, distributor, supplier, or dealer, GE Capital, Americas inventory financing solutions can help you fund the flow of inventory with a proven and measured approach to lending.
You can rely on our expertise and proactive guidance to help you manage inventory efficiently through all cycles.
We offer online account management tools to speed funding and reconciliation, along with detailed reporting and analysis to monitor your businesses health.
Here's a look at the opportunities that may be appropriate for your business:
•Inventory Financing: Funds the flow of durable goods from manufacturer to dealers/resellers through customized independent and captive programs designed to increase sales. Our expertly structured programs not only help enhance the manufacturer's competitive position, but also meet the unique financial requirements of end-user customers.
•Asset Based Lending: Provides access to capital based on business assets, including inventory and accounts receivable.
•Short-term Accounts Receivable (STAR) Lending: These special programs help small businesses expand quickly to meet seasonal demand.
For more information, please visit the GE Capital, Commercial Distribution Finance web site.
What Does Inventory Mean?
The raw materials, work-in-process goods, or completely finished goods that are currently or soon will be available for sale. Inventory represents one of the most important assets most businesses possess; inventory turnover is one of the primary sources of revenue generation and subsequent earnings for the company's shareholders.
Investopedia explains Inventory
Possessing a high amount of inventory for long periods is not usually good for a business because it carries inventory storage, obsolescence, and spoilage costs. However, possessing too little inventory is not good either, because the business runs the risk of not filling customers' orders and losing potential sales and thus market share as well. Inventory management techniques such as a just-in-time inventory system can help minimize inventory costs because goods are created or received as inventory only when needed.
Businesses need money. Having money is an essential part of a successful business. Most of the time a business owner needs to borrow money from a bank so that they can start up their business. And many businesses also need to borrow money after they have started their business to keep it running. Banks and other lending institutions offer several different financing options to business owners. One of the financing options that is available is inventory financing. This article discusses inventory financing in more detail.
What is inventory financing?
Inventory financing is a line of credit (or a loan) that a business owner can get for their business. This line of credit is secured, or backed, by the business' inventory. This means that if the business owner were not able to pay their loan payments, the bank could take their inventory instead.
Why is inventory financing a good idea?
Many businesses have an inventory. And the business' inventory has cost the business a lot of money. It is definitely a good idea for a business to have an inventory. But while the inventory is considered inventory it is not making the business any money. And it can leave the business with not a lot of cash flow, especially if the business is just beginning. If the bank feels that the inventory can be used to back the loan, it can be a good idea for the business to use inventory financing to increase their cash flow so that they will have the cash to buy their supplies when they need them. Having cash on hand from inventory financing can also help a business keep their high levels of inventory and replenish their stock of inventory when they have a good turnover rate.
When is inventory financing not a good idea?
While inventory financing can be a great option for many different types of businesses, there are some businesses that should not use inventory financing as their financing option. For example, if a business has an inventory full of older merchandise or the merchandise in their inventory is hard for them to sell; they should not get use inventory financing. The reason that inventory financing is not a good idea in this case is because the business is already having a hard time selling their inventory, they should not add on a loan payment that will also have interest.
Another example of when a company should not use inventory financing as their financing option is when the business has an extremely slow turnover rate for the merchandise in their inventory. The cash from this business' inventory is more available to them and their line of credit can be secured by the business' inventory.
Who can use inventory financing?
A business that would like to use inventory financing has to be a business that has an inventory. The business also has to have a really good system that lets them keep track of their inventory so that they might be a great candidate for inventory financing. The merchandise in the inventory needs to be kept in good shape because sometimes the lender may drop by to check out the inventory to make sure that it is in good condition.
A business that is interested in using inventory financing should also have proof that the inventory moves quickly. And a business that is careful about buying any inventory might be a good candidate for inventory financing. They should make sure that they are doing business well and not buying things that will not sell.
An inventory is a detailed list of all of the items present or the process of making such a list. (noun)
An example of an inventory is a list of all of the items in a warehouse.
To inventory means to make a detailed report or list. (verb)
An example of to inventory is to make a list of all of the items in a supply closet.
•Cost of financing is based on the following factors:
◦Amount of credit required - the higher the credit, the lower the cost
◦Inventory turnover - the faster it sells, the lower the cost
◦Type of inventory - the greater the collateral strength, the lower the cost
◦Fees range from 2% to 6% over Prime or Libor rate.
Cost of Financing Inventories
Inventory financing can be used where inventories are highly marketable and no threat of obsolescence exists. The inventory serves as collateral within the financing arrangement. Financing can occur up to 70% of inventory values provided that inventory prices are relatively stable. The costs of financing inventory can be very high; such as 6% over the prime lending rate.
Three types of financing arrangements for inventory are available. They are floating liens, warehouse receipts, and trust receipts. Floating liens place a lien on the overall inventory stock. Warehouse receipts give the lender an interest in your inventory. And trust receipts represent a loan which is released as you sell your inventory. The costs of financing inventory is illustrated in the following example:
You would like to finance $ 100,000 of your inventory. You need the funds for 3 months. You will use a warehouse receipt arrangement. This arrangement requires that you setup a separate area for the lender's inventory. You estimate an additional $ 2,000 in costs for storing and maintaining the inventory. The lender will advance you 80% at 16%. The costs of financing inventory is $ 5,200 as calculated below:
.16 x .80 x $ 100,000 x 3/12 = $ 3,200 + $ 2,000 or $ 5,200
Inventory turnover ratio indicates the liquidity of the organization's inventory. To find the inventory turnover ratio, divide the cost of goods sold by the average inventory figure for a given time period.
It essentially shows how effectively the firm uses its inventory to generate revenue. The higher the ratio, the more effectively the firm uses its inventory. A ratio that is too low may indicate low sales. A ratio that is too high may mean that the organization is not properly assessing its inventory needs. Ratios can be different for different industries. For example, a clothing store may have an inventory turnover ratio of 12 in a given year, while a company that builds heavy equipment may only turn its inventory over 2.3 times in the same year. When a company has a history of low inventory turnover ratios, it may mean that its liquidity is lower.
1 Determine the cost of goods sold during a particular period of time. You may find this information on the company's income statement. For example, assume the cost of goods sold was $10,000.
2 Determine the finished products inventory for that same time period. You may also find this information on the company's income statement. For example, assume the finished products inventory during the same period of time was $1,000.
3 Divide the cost of goods sold by the finished products inventory. Continuing the same example, $10,000 / $1,000 = 10. This figure represents the company's inventory turnover ratio. In other words, during this period of time, the company sold its inventory 10 times.
Inventory financing is similar to receivable financing. Inventory financing has the following requirements:
1. Inventory must be highly marketable.
2. Inventory is non-perishable and not subject to obsolescence.
3. Inventory prices are relatively stable.
There are three forms of inventory financing:
Floating or Blanket Liens
The financing company will place a lien on your inventory; i.e. they obtain a security interest in your inventory in exchange for lending you cash. You continue to manage and control the inventory.
The financing company obtains an interest in a certain segment or part of your inventory. You will have to separate the inventory that you use for financing from the inventory not used for financing. This may require physical separation as well as separate accounting.
The financing company lends you money for a specific item in your inventory until you are able to sell it. When you receive cash for the inventory sale, you pay the financing company. For example, car dealerships often buy automobiles by financing the purchase. When the car is sold, they pay off the financing company.
Example 11 --- Calculate Costs of Financing Inventory
You have arranged for financing against $ 200,000 of your inventory. You will need financing for four months. The warehouse receipt loan costs 18% with 80% advanced against the inventory value. Additionally, you will have to separate your inventory and maintain separate records. This will costs about $ 6,000 over the four-month period.
Interest Costs = .18 x .80 x $ 200,000 x ( 4 / 12 ) = $ 9,600
Internal Costs 6,000
Total Costs for 4 months $15,600
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