Using debt to "time-shift" cash flow

Introduction

The world moves fast. Businesses are constantly looking for ways to stay ahead of the curve. For some, the mismatch between when you need to spend and when you'll get paid adds another layer of complexity.

From managing variable revenue streams due to project-based work to balancing available resources, certain businesses are in dire need of tailored solutions. A robust cash management program helps ensure smooth cash flow, address unexpected expenses, and take advantage of opportunities for growth. 

Today, we'll uncover how some businesses use purpose-built short term debt solutions to help manage their cash flow.

Cash flow challenges in businesses with variable demand and lagged payments

Let's take a look at services business owners. Managing cash flow is a consistent topic of focus. This sector depends on project-centric work, and variable demand makes it difficult to plan. Exacerbating this problem is the occasional delay in payments on receivables, or the lag time in payment for services built in when customers demand net terms. 

Ideally, timely invoice settlements would be the norm, allowing businesses to operate with financial predictability. However, real-world scenarios sometimes present challenges. Delays might arise from extended payment terms, administrative processes, or clients managing their own financial schedules. Such delays can lead to:

• Strained vendor relationships.
• Inability to pay staff on time.
• Limited reinvestment opportunities due to reserved cash.
• Rare cases of financial tightness when delays become extensive.

Another aspect to consider is the initial investment often needed to kickstart projects or deliver on service contracts. Once an agreement is in place, businesses often incur certain costs upfront. This could range from acquiring necessary materials for inventory to dedicating human or capital resources. Yet, with the actual payment for a project being on a different timeline from the resource outlay, there's a gap between expenditure and revenue recognition. This interval can necessitate careful financial planning, influencing growth prospects and the exploration of new opportunities.

These considerations highlight the importance of robust cash flow strategies. With the right financial solutions, businesses can navigate these challenges more effectively, ensuring their services are delivered seamlessly and with financial confidence.

How companies use working capital to power operations

We think of working capital broadly as a liquid asset in a business that’s required to make it run. One analogy is that it’s like blood in the body; it flows through the business and enables it to move. Optimal levels of working capital serve two broad categories of purposes:

• Tactical: For some businesses, working capital serves as a safety net or a means to pounce on sudden opportunities. Businesses can harness it to cover unexpected or unplanned expenses or to leverage impromptu growth opportunities, like accelerating payments to suppliers for time-sensitive needs.
• Strategic: On the other hand, many businesses view working capital as a strategic tool. For them, it's about fortifying their operations against predictable financial fluctuations. Businesses deploy it to navigate through seasonal cash shortfalls, fund well-planned investments, or replace outdated systems — all with an eye towards long-term growth and operational efficiency.

A glimpse into working capital dynamics

For small business owners with an eye for growth, their larger competitors in the middle market take on similar working capital dynamics. The 2023 index from PYMNTS Intelligence on working capital usage dynamics paints a vivid picture of current financial management trends among almost 1,000 middle market companies, and their approach to leveraged working capital. Even though larger businesses like these typically maintain higher cash reserves and better access to traditional longer term sources of debt financing, it’s key to zoom in on the fact that they still leverage short term debt and working capital in lots of the same ways a small business owner might.  

A significant majority, 66%, of businesses lean towards strategic working capital usage. This emphasizes a broader shift towards future-oriented and planned financial management, hinting at the importance of foresight in today's business environment. Strategic use of short term debt enables those businesses to see a 33% higher chance of improving their Days Payable Outstanding (DPO). In other words, these businesses use "good debt" to help enhance their overall operational efficiency.

For middle market businesses, this comes in the form of a growing emphasis on accounts payable (AP) and accounts receivable (AR) financing, particularly in services industries or industries with significant supply chains. Adding debt that boosts working capital helps them “time-shift” cash, so that payables are better aligned with receivables. 

Source:

"2023-2024 Growth Corporates Working Capital Index." PYMNTS Intelligence

What about financing your invoices or purchase orders?

For businesses with variable operational demands, adaptability and financial flexibility are essential. Here, working capital financing options, including accounts payable (AP) or accounts receivable (AR) financing, offer a range of benefits:

1. Immediate access to funds: A primary advantage of this kind of financing is the swift availability of funds for businesses. It reduces the need to wait for client payments before starting a project or obtaining vital tools. Businesses are better equipped to initiate projects promptly, allowing them to respond to market opportunities efficiently.
2. Steady cash flow management and business sustainability: Consistent cash flow is vital for the smooth operation of any business. Financing AP and AR supports this by ensuring funds are available when required, helping companies balance the typical financial fluctuations seen in the service sector. With reliable cash flow, businesses are better able to ensure long-term durability.
3. Reducing risk of payment delays and defaults: Working capital financing offers a solution to the common challenge of awaiting client payments. By offering funds upfront against invoices for example, a business decreases its uncertainty related to payment delays. This financial stability enables better planning, strengthens counterparty relationships, and allows businesses to undertake projects with added confidence.

Short term financing provides services businesses with practical tools to manage financial challenges. With its ability to offer immediate funds, ensure consistent cash flow, and minimize payment-associated risks, trade financing stands as a valuable resource for businesses seeking to maintain a competitive edge.

Use cases for Kanmon's working capital financing

Owners of small and growing businesses continually seek avenues to enhance their offerings and meet evolving client needs. The integration of financial solutions, like those offered by Kanmon, represents a strategic evolution in service delivery. Below, we explore some of the compelling use cases for integrating Kanmon's financing solutions into professional services:

1. Project financing support:

• Scenario: A client needs to kickstart a large project but faces temporary cash flow challenges.
• Solution: Through Kanmon's solutions, service providers can offer immediate financing, enabling clients to initiate projects without delays.

2. Accelerate an invoice:

• Scenario: A service provider has completed a project but faces prolonged payment terms from their client.
• Solution: Kanmon's invoice financing can offer immediate liquidity against the pending invoice, ensuring providers maintain cash flow stability.

3. Equipment and tool procurement:

• Scenario: A client requires specialized equipment or tools for a project but lacks immediate funds.
• Solution: By leveraging Kanmon's financing, providers can assist clients in acquiring necessary tools or equipment upfront, ensuring project timelines remain on track.

4. Managing seasonal demand fluctuations:

• Scenario: A service provider witnesses high demand during specific seasons but struggles with off-season liquidity challenges.
• Solution: Kanmon's tailored financing solutions can help providers manage seasonal cash flow variances, ensuring stability year-round.

5. Expansion and scaling:

• Scenario: A professional service firm is eyeing expansion or wishes to undertake larger projects but faces financial constraints.
• Solution: With Kanmon's robust financing options, firms can secure necessary funds to drive their growth ambitions.

6. Navigating unexpected financial shortfalls:

• Scenario: Unforeseen challenges or market shifts result in sudden financial hiccups for a service provider.
• Solution: Kanmon's agile financial solutions can provide a safety net, enabling providers to navigate such challenges without compromising service delivery.

Integrating Kanmon's working capital financing solutions offers professional service providers an avenue to enhance client relationships, navigate financial challenges, and bolster their service portfolio. The use cases are vast and varied, underscoring Kanmon's versatility in meeting contemporary professional service demands.

The future of cash flow for small and medium-sized businesses

Appropriate use of debt can play an instrumental role in addressing cash flow challenges and ensuring sustainable growth.

Incorporating ways to optimize AP/AR, by leveraging purchase order and invoice financing, businesses have the ability to “time-shift” the way cash moves through their accounts. Lining up when cash leaves the business to when it comes in gives owners greater flexibility to strategically and tactically apply working capital to growth. 

If you’d like to learn more about how Kanmon can help, we’d love to hear from you!