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Working Capital Loan

Quick facts

What is a Working Capital Loan?

A working capital loan a short-term loan that is taken out to facilitate the day-to-day running of everyday operations. This is to ensure the daily operational needs of a company is met. A working capital loan is a short-term or medium-term business loan that serves to cover a company’s everyday operations. It comes under the umbrella of working capital finance.
 
A working capital loan can be taken out to meet costs such as rent, staff and payroll and debt repayments and other corporate debts associated with running a business. Critically, it is not used to buy long term assets or fund long term growth.

Why choose a Working Capital Loan?

There are three main reasons why you might consider taking out a working capital loan:

•      You’re struggling to meet your day-to-day operational needs (e.g. paying suppliers, creditors, rent, payroll) out of cash flow, perhaps because your sales are cyclical or seasonal
•      You want to invest in your business or take on a new contract
•      You want a cash cushion, either so you can respond to unanticipated opportunities (e.g. an R&D breakthrough might come early or a competitor’s supply chain might break down) or so you can manage unforeseen expenses

Companies who want to increase their liquidity or face seasonal/cyclical business cycles may benefit from a Working Capital Loan. 
 
If a business does not have the required flexibility and cash flow to cover daily operational costs, a Working Capital Loan can be taken out to meet changing requirements or off-set periods of low activity/income.
 
In many industry sectors, seasonality is a critical factor. For example, the hospitality sector generates a third of its yearly revenue in the period between 5th of November until 5th of January. Many businesses in the sectors may require a working capital loan during peak business activity to meet overtime and temporary staffing costs; conversely during off-peak season a Working Capital Loan may be used to off-set reduced income during less profitable months of the year.
 
You stand a better chance of getting an unsecured working capital loan (typically up to £250,000) if your business has a high credit rating, though you may be asked for a personal guarantee. If you take out a secured working capital loan, the lender will care less about your business profile and more about the asset. Secured lending is usually cheaper than unsecured lending because there’s less risk for the lender.

Pros and Cons of Working Capital Loan

A Working Capital Loan can be secured up-to 48 hours from application so it’s easy and fast to obtain. This allows for business owners to meet foreseen and un-foreseen capital costs expenditures quickly.
 
Another benefit is that some Working Capital Loans are usually debt-financing and non-equity transferring which means that you do not have to give away part of your business. 
 
However, some Working Capital Loans are usually unsecured. This means because you are not using equity to back up your loan, the personal credit worthiness of the owner is assessed and secured using personal credit score. 
 
Furthermore, as the interest rates can be high to offset the high risk nature of this loan. Also, as a working capital loan is tied directly to as business owner’s personal credit worthiness, missed or defaulted payments will impact the personal credit score of the owner.

Is it suitable for an SME?

•      Allows SMEs to anticipate periods of cyclical or seasonal activity-tide yourself through fluctuations to make sure your business meets its daily running costs
•      Improve your cash-flow-liquidity to meet non flexible operational costs
•      A short term cash boost to meet increased or decreased activity
•      Meet unexpected business costs without giving up equity!

Have you also considered?

Working capital loans are just one type of working capital finance. You might also consider the following:
•      business overdraft
•      revolving credit line
•      invoice finance (i.e. invoice factoring,invoice discounting and CHOCs)
•      trade finance (if you’re dealing with international buyers and suppliers)
•      business cash advance (e.g. merchant cash advance)
•      business credit card
•      asset refinance
•      purchase order finance
•      supplier finance
•      R&D tax credit loans

If you’re looking to buy long-term assets or investments then you’d look at longer-term business loan or other types of debt finance.

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