How cash flow lending works

What is cash flow lending? 

Cash flow lending is a short-term, often unsecured loan for your business purposes. Sometimes called cash flow finance, it can be used to cover operating costs like payroll, rent or inventory. You can also use it as a form of equipment finance to help grow your business.

When unsecured, this type of lending doesn't require your business or personal assets as collateral. Instead, your eligibility depends on expected cash flow — whether your business can make enough money to repay the balance. Secured cash flow lending assesses expected cash flow to calculate a reasonable loan level, but may also use the value of your business assets as a form of collateral. 

Why can cash flow lending be useful for businesses? 

Cash flow lending can be useful when cash on hand regularly fluctuates. Most businesses have varying levels of cash over a financial period. But, for some, like seasonal businesses where the ups and downs are much higher and much lower, a cash flow loan can cover overheads in the quieter months — knowing you can pay back the loan during your next busy period. 

Here are some other scenarios where cash flow lending could be useful:

• You want to launch a new product, but you must invest in production and marketing before any money from sales comes into the business. 

• You need to buy inventory or raw materials in bulk to leverage volume discounts from your suppliers.

• You want to expand or purchase a new piece of equipment or software that will help increase production or operational efficiency. 

In all of these examples, cash flow funding would let you finance these purchases without using the cash flow you need to pay for operational costs. 

Advantages of cash flow lending

Cash flow lending is often more accessible and advantageous if you have a smaller business with fewer assets, but have good cash flow expectations.

Here are some more pros:

Less collateral required

Because this type of lending is cash flow-based and can be unsecured, your business or personal assets aren’t always required to secure the loan. 

Accessible to new businesses

Approval for a cash flow loan comes down to your company’s expected capacity to generate future cash flow, as opposed to past financial performance. This can work for newer businesses with strong current financial performance. 

Quick access to capital 

Compared to other, more traditional financing options, you can get a cash flow loan approved quickly.

Less expensive than equity finance 

A cash flow loan can be an alternative to bringing on an investor in exchange for equity in your business. It’ll inject cash into your business while letting you keep your shares and maintain control of the company.

Disadvantages of cash flow lending

Like all types of business finance, cash flow lending has disadvantages that can add financial risk.

Higher interest rates

Many cash flow lenders charge higher interest rates to compensate for more significant default risks on their part. 

You may be personally responsible 

Lenders can make you personally responsible for repaying the debt or secure the loan against your business assets. 

Less control over repayments

Most lenders will require that you set up an automatic payment, which gives you less flexibility and control over when and how you repay the loan.

Real-world example of a cash flow loan 

Imagine you're a seasonal business selling fresh strawberries, making most of your annual sales from October to February. You experience low cash flows during winter, so you take out a cash flow loan to cover your operating costs until your high season. When sales trend upwards again during summer, you'll have the cash flow to repay the loan with interest. 

Important questions to ask a cash flow loan provider

When you apply for cash flow lending, remember to ask loan providers these important questions:

Do you lend to my industry?

Many lenders specialise in specific industries. Asking this question will help you avoid wasting time applying before realising a lender can't or won't lend to you. 

Do you offer a loan term that suits my business?

Some lenders exclusively offer short or long-term cash flow loan options. You want to ensure you choose a lender that provides the right loan terms for your business. 

What's the interest rate?

Once you know what interest rate a lender offers, you'll have a benchmark to compare with other lenders and negotiate the most competitive rate.

What's the true cost of the loan?

Interest isn't the only cost involved with borrowing money. Lenders will charge other fees, so asking about these upfront will give you a clearer picture of how much the cash flow loan will cost. 

What information do I need to provide to get my loan?

Lenders will differ in what they require from you. Look into application requirements before deciding on your provider. Knowing what information is required with your application means you can get your books organised sooner and your loan reviewed more efficiently. 

What's the payment schedule?

If a potential lender requires weekly repayments but you've planned for monthly repayments, you might need to opt for a different provider, or adjust your financial plan to ensure you've enough cash flow to avoid missed payments. 

What are the key terms of my loan agreement?

It's important to understand the various metrics used by each lender so you can compare financing options. Key terms include interest type and rates, secured or unsecured, fees and penalties for late repayment or defaulting. 

Cash flow lending vs asset-based lending

The main difference between cash flow lending and asset-based lending is that asset-based lending is secured by some form of collateral. Asset-based lending calculates the value of assets like property, equipment or inventory to establish a borrowing limit and focuses on your balance sheet. Cash flow lending is based on projected income shown on your income statement.  

Other key differences between cash flow and asset-based lending are:

Suitability

Cash flow lending is often a more viable option for small businesses with higher margins or fewer assets. In contrast, asset-based lending suits businesses with valuable assets on their balance sheets. The value of the assets must be significant enough for the lender to take a risk on the loan. 

Eligibility criteria

When assessing an application for asset-based lending, lenders will look at whether you have sufficient current assets (liquidity) to pay back your debts (solvency). Cash flow lending depends on how much money you’ll generate in the future (profitability). 

Cash flow lending vs a working capital loan 

The main difference between cash flow lending and a working capital loan is what the loan is for. A working capital loan provides funding for everyday operations. Cash flow lending can be used to buy long-term assets or investments that support business growth.

Cash flow lending FAQs

How do you record a loan on a cash flow statement? 

Here's how to record a loan on a cash flow statement:

• When you receive the loan, add the principal amount as a cash inflow on the financing activities section of your cash flow statement. 

• This will show the money coming into your business and increase cash flow.  

• Don’t forget to show instalments on your loan as outgoing cash flow. 

What's the difference between cash flow and balance sheet lending? 

Both usually involve a traditional lender, such as a bank or credit union. Balance sheet lending means you borrow directly from a provider who assesses your balance sheet and overall health of your company when you apply for a loan. A balance sheet provider keeps your loan on their balance sheet for the entire term of the loan. Cash flow lending comes from a provider that assesses your ability to repay the loan from future cash flow, focusing on your income statement. 

What's the difference between cash flow lending and cash flow finance? 

There's no difference between cash flow lending and cash flow finance. Both refer to the type of business finance that provides cash flow support.

Stay cash flow positive with MYOB 

MYOB has partnered with lending experts Valiant to give you access to cash flow finance and a range of other loans from over 80 lenders from across Australia. Apply for a business loan through your MYOB Business browser and receive tailored, obligation-free lending options from Valiant. Start your free trial today.

Disclaimer: Information provided in this article is of a general nature and does not consider your personal situation. It does not constitute legal, financial, or other professional advice and should not be relied upon as a statement of law, policy or advice. You should consider whether this information is appropriate to your needs and, if necessary, seek independent advice. This information is only accurate at the time of publication. Although every effort has been made to verify the accuracy of the information contained on this webpage, MYOB disclaims, to the extent permitted by law, all liability for the information contained on this webpage or any loss or damage suffered by any person directly or indirectly through relying on this information.