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How to Raise Cash for Your Business Now

Maureen Farrell and Brett Nelson, 01.30.09

You need the green stuff, and your bank isn't lending. Here are six options.

 

In Pictures: Six Ways To Raise Cash Now

Lenders aren't just skittish these days--they're downright terrified. But bank loans, credit lines, angel investors and even generous uncles aren't the only ways small-business owners can raise a few bucks.

The alternative-finance industry is massive, employing some 35,000 people at U.S. commercial banks, thrifts, credit unions, independent finance companies and hedge funds, among other lenders.

The outstanding dollar amount of business-to-business loans hit $545 billion in 2007, nearly triple the total from a decade ago, according to the latest figures from the Commercial Finance Association. Save for two contractions, during the 1990-91 recession and the 2001 tech bust, the total dollar amount of asset-based loans has grown each year since 1976. Throw in business-to-consumer transactions, and that debt pile is now north of $1 trillion.

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Tapping that fat spigot of liquidity will cost you. But then, taking a haircut is better than going out of business. Here are six financing alternatives--some more expensive than others--for those who need the money right now.

Factoring

This maneuver involves selling the receivables on your balance sheet at a discount to raise money today. The invoices can be for anything from manufactured goods to medical services purchased by a business or government. Factors have a first lien on those cash flows, so factoring arrangements are hard to strike if you have a judgment against your business or if your bank has a blanket lien on your assets to secure a loan.

Some banks have factoring practices, and there are many established stand-alone factoring firms. Now, with credit so tight, smaller shops are springing up. You can find scores of factoring organizations through the International Factoring Association or with a simple Google (nasdaq: GOOG - news - people ) search.

Consumer Installment Financing

This is a twist on factoring, but for business-to-consumer arrangements with longer time frames. Say you sell delivered-food plans to people too busy to shop. Your customers might sign up for a monthly installment plan, to be paid out over two years, but you need cash now. A consumer-installment financing firm is happy to buy those contracts at a discount to their present value. But that's not your only cost of funds: You'll also have to set aside a percentage to cover the deadbeats who don't pay up; if the paper eventually performs, you'll get that money back, but you're still short that cash today.

 

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The worse the credit profile of your customers (and the longer the installment period), the more that capital will cost you. Example: GE Capital, which prefers A-rated paper, may only demand a 6% discount. Smaller shops that traffic in riskier debt may charge a 10% upfront discount, plus another 15% for the refundable bad-debt reserve. Don't have gross margins well in excess of that overall 25%? This form of financing probably isn't for you.

Purchase Order Financing

This structure is trickier still. Say you landed an order from a big retailer, but you don't have the cash for the raw materials to make the product. That's where purchase order financing comes in.

In this setup, the PO financier fronts the money to buy the material today and then takes a cut of the check ultimately paid by the retailer. Because the PO financier assumes much of the supply-chain risk, the costs of those funds is typically steeper than in the factoring scenario. Indeed, PO shops prefer to work with simple wholesalers and distributors rather than manufacturers tasked with adding a lot of value to the raw material. (PO financing can also be used to fund letters of credit for deals with foreign suppliers.)

Merchant Cash Advance

These financiers of last resort give small businesses cash today in return for a percentage of their future credit card sales. Unlike a loan, which comes with a fixed coupon over a set period of time, MCA transactions involve a target repayment amount, collected over as long a period as necessary until it's paid off.

The deals are typically structured so that, based on a customer's past performance, the MCA shop gets its money back--plus a handsome return--in six to nine months. If revenues ebb, the payoff could take longer than expected; if they spike, the shop collects its money faster, allowing it to put that cash to work on another deal, juicing its already juicy returns. (For more on this technique, check out "Look Who's Making Coin Off The Credit Crisis.")

Pre-Settlement Lawsuit Financing

This method lets you raise money today by borrowing against future legal awards. Pre-settlement shops tend to advance in the neighborhood of 10% of the expected settlement. If you prevail, the financier takes its cut of the award, perhaps 40% (that's on top of the roughly 33% that your lawyer will nab); if you lose, it gets paid zero. The cost of funds depends on the perceived risk of the case and the length of time the advance is outstanding. (Some lawsuit financiers may accept a fixed amount of the settlement proceeds.)

Unsecured Loans

The most common form of an unsecured loan is a credit card. But you can also borrow simply based on your credit history, in the form of a "signature" loan--meaning that you personally guarantee that you will service the loan. Some local development corporations and micro-lending groups lend money this way. Unsecured loans are a long shot in any economic environment, let alone in a tough recession. But it's worth asking.

As with all alternative-financing schemes, these deals can be structured myriad ways, so the annualized costs of those funds are hard to compare. Bottom line: Really understand what you're paying, and don't leave your calculator at home.

In Pictures: Six Ways To Raise Cash Now

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