In times of recession, cash is king.
To be clear, I don’t know if the US is heading into recession. However, the signs seem to point in that direction. In these uncertain times, you may be wondering what to do, money-wise.
For starters, stop using cash flow to fund growth. We’re all guilty of doing this, and when things are going well, it often doesn’t matter. However, using your cash to pay for something that can be financed can catch you up as the market begins to tighten.
Recently, I met a business owner facing an inventory and liquidity dilemma: When deliveries started taking 34 weeks during the pandemic instead of eight weeks, this business owner decided to minimize the impact of supply chain shortages and increased inventory. I don’t discourage stockpiling in times of shortage, but I do discourage using cash flow to do so. As a result, the company started delivering products to customers faster, but lost much of its cash. The company had increased inventory by $3 million to protect against supply chain disruptions, but no longer has cash available for other parts of the business.
Your new mantra, as we approach a period of slower growth: Maintain balance and flexibility. Here are three other options to consider:
1. Tap an asset-based line of credit
Asset-based lines lend against inventory and accounts receivable. This should be a consideration for any business that has a significant amount of either. Typically, you should be able to borrow from 80% of accounts receivable and 50% of inventory.
2. Open or extend a line of credit
To start, if your business doesn’t have a line of credit, you need to get one. A line of credit allows you to deal with seasonality and emergencies, without dipping into your cash flow. Be sure not to use your line of credit for long-term investments. Lines of credit usually have to be repaid once a year, which is why they don’t work well for large purchases/investments. If you’ve had a line of credit for a while, consider asking for an increase.
3. Consider purchase order financing
This type of financing is used when a company receives a large order that it is unable to fulfill due to a lack of cash to purchase the raw materials. Business owners can finance up to 100% of the raw material/manufacturing cost of the product. Purchase order financing can be a good option even if you don’t have the best credit score, but it can be more expensive.
These suggestions come with a very important caveat: avoid predatory lenders, who are well aware of your growing concerns about inflation, supply chains and labor shortages. With traditional loans becoming more expensive as the Fed raises rates, bad financing instruments might start to look more palatable. Do not fall into the trap. Yes, access to credit is expected to continue to tighten, but accepting short-term online loans from predatory lenders can quickly send you into a spiral of debt that is almost impossible to escape. .
If in doubt, speak to a trusted business or financial advisor. Find out about the methods I have described above or a term loan before taking on additional debt.