What is Inventory Financing?
Inventory financing is when a business seeks funding to purchase salable goods for their business. Keeping the shelves stocked with the merchandise your customers want to buy is an important part of running a successful business. Under the right circumstances and with the right loan terms, financing inventory purchases can be a smart business move—and a good reason to get a small business loan. This is particularly true if you have an opportunity to buy that inventory at a discount.
Length of Loan Makes a Difference When Purchasing Inventory
How quickly your inventory turns will point you at the loan terms that make the most sense for your business. For example, if you expect your inventory to turn in three or four months, it might not make sense to borrow money with a three- or four-year loan term. A shorter term might be more appropriate.
If you’re still paying this year for inventory you purchased last year (or two years ago) with a longer-term loan, it might make it harder to purchase inventory now. At least it could make it harder to borrow this year. Think of it the same way you would think of purchasing a car. You likely would not purchase a new car with a 30-year loan; it would make the overall cost of the car very expensive. And, who wants to still be making new car payments on a 25-year old car?
It’s possible a longer-term loan will have a lower annualized interest rate, but the total cost of the loan will likely be higher. Conversely, a short-term loan may have a higher annualized interest rate, but the total cost of the borrowed funds will likely be less (of course the periodic payment will likely be more). When you consider a small business loan for buying inventory, you should consider a number of factors, including the overall cost of the loan. Does it make financial sense, or will the total amount of interest you pay consume all of the profit in the merchandise you’re buying to sell.
Another way many business owners finance inventory purchases is with a business line of credit. Unlike a business loan, a line of credit allows the business owner to access part, or all, of the credit line, repay it, and access it again as needed. What’s more, interest is only charged on the credit the business owner uses.
Does Borrowing to Purchase Inventory Make Sense for Your Business?
There are certainly costs associated with borrowing that need to be considered, but if the total cost of borrowing enables your business to generate more profits, it could be a good decision—provided the numbers make sense.