How do I correctly calculate my Invoice Financing Line?
One of the things that I see over and over again is that companies either ask for too much credit or not enough credit for their invoice financing. Both of these can hurt a company by making a business owner look like someone that does not know what they are doing. when looking for a credit line how do you determine the number? The first thing that you need to look at is what are your average monthly sales or what do you realistically expect them to be. Once you have that number look at what your sales terms are and assume ½ of your invoices are going to go past terms and figure out what that total amount is and this will give you the range to look at.
Example: Avg Monthly Sales: $100,000
Payment Terms: 30 Days
Avg Days for Payment: 45 Days
Credit Line Needed: $150,000 – $200,000 ($250,000 for immediate growth)
Once you know the line amount that you will need think about where you see your company in six months and make sure that the lender has the ability to meet those needs in the future.
A common mistake that companies make is going for far more credit than they need. This can hurt a business in several ways. Let’s say your company sells about $100,000 a month with terms of N-30. It makes a lot of since to look for a line between $150,000-$200,000 dollars even $250,000 for growth but a lot of businesses will either ask for or accept a much larger amount than is realistically needed. If you ask and you don’t have solid orders in hand to justify the want, you may look like a pie in the sky owner that might not make their decisions based on reality. While you will probably get the amount that you are requesting it is not smart to ask for more then you need. If there are minimum monthly fees you could be paying on money every month that you are not using or if you sign a contact and decide to break the contract know that the termination fees will be based on the number that is inflated to that line amount that you don’t need. While most companies don’t break the contract, a savvy borrower knows that as they grow the line will also, so they can use growing to the capacity of the lien as a great time to renegotiate for a better rate. While having a larger line then you need may make you feel good it could cost you a lot of money. Once you understand how to establish your credit needs you should consider what the best collateral position will work best for your business.