Inventory finance explained

There are many different types of financing out there and securing the right one is often confusing and difficult. The most common sources of small business funding are credit cards and secured bank loans, with a recent CPA survey indicating that 66 per cent and 41 per cent of small businesses would seek the respective financing. However, only six per cent sought inventory finance.

So why are so many Australian businesses shunning this type of funding? Below, we explain what inventory funding is and which businesses it would best suit.

What is inventory finance?

Inventory finance is a short-term loan made by your bank or credit provider to your business, to enable you to purchase inventory or stock to run your business. According to finance broker KR Consulting, the bank will pay your suppliers for stock in advance, and when you have sold your stock, you repay the bank. In other words, your inventory acts as collateral for the loan, so if you can't sell your products, the bank has the right to keep them.
However, if you manage to sell your stock, inventory finance is a good way to maintain a good relationship with your suppliers as they are paid in full and on-time by the bank. Of course, this relationship depends on if your suppliers can deliver the goods.

What's the catch?

This type of financing can be more expensive than a regular bank loan, but if you've been rejected for a loan, inventory finance becomes a more viable second option to operate your business. Also, if you don't think you will be able to sell your products in a short amount of time, it may not be a good idea - calculate the total cost of the loan plus interest first before committing.

What types of business can use inventory finance?

Firstly, you'll have to be selling tangible products, which can range from washing machines to shoes, as long as it is a physical product. Businesses providing a service will naturally be excluded from this definition, as the bank will need actual items to serve as collateral.

Next, you will need to have a solid credit history and record of sales to prove that you will be able to sell your products. The last thing a bank wants is to be left with a pile of unsold stock. A good credit history will also show that you are a good payer. In particular, sole traders and micro businesses that do not have established commercial history may find it hard to obtain this type of finance, as there would be no commercial credit report. However in these cases the bank may look at your personal credit report, so ensure you obtain a copy  of your credit report for any inconsistencies or black marks before your apply for a loan.

Inventory finance is not particularly suited to a startup due to the absence of a sales record, but it's something to consider down the track as you grow.

The type of business that would benefit most from inventory finance is one with a fast moving cash flow cycle who replenishes its stock frequently. This business may not have enough finance to buy goods for its next round of orders, but if those orders are already locked in, inventory finance will prevent the business from tying up extra cash in its stock.

What do I need to apply?

  • Good credit history
  • Record of sales
  • Business plan
  • Type of inventory you will need to purchase

You may need to provide more information depending on what your bank requires.

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