Difference Between Revolving and Non-revolving Credit Line

What Are Revolving and Non-revolving Credit Lines?

There are two types of credit lines (also known as lines of credit) – revolving or non-revolving. The differences between both lie around what happens after the maturity of the credit line. A revolving credit line will allow the borrower to drawdown immediately subjected to fulfilling certain mutually agreed terms while a non-revolving credit line will terminate the entire facility.

How a Revolving Credit Line May Affect You

Each arrangement brings about its own advantages and disadvantages. Usually, a borrower with strong financials and an existing relationship with the lender is more likely to obtain a revolving credit line. Revolving credit lines provides convenience to the borrower. This may come at an extra cost to the borrower in the form of a facility fee (think retainer).

Revolving credit lines are suitable for borrowers that operate in sectors that work on projects with long cycles. Therefore, they are more suitable for borrowers that have business deals with consistent terms. Let’s take a company that supplies basic medical supplies to a hospital as an example. An ideal and common scenario would be a blanket commitment for the bulk of these medical supplies, to be delivered in smaller batches over a period. Due to cash flow predictability, lenders are more inclined to offer a revolving credit line to the borrower to finance their contract requirements. The borrower benefits from the assurance that a facility is readily available. The speed of drawing down from a revolving credit line is faster too.

How a Non-revolving Credit Line May Affect You

For borrowers that operate with bespoke terms in every business dealing, a revolving credit line would not work. Having a revolving credit line may create inflexibility and incur additional costs to these borrowers’ operations. An example would be a company that supplies building materials to a construction project. The delivery and credit terms will vary at each stage of the project schedule. As these terms differ, having a revolving facility that has pre-determined drawdown conditions may hinder the borrower’s operational performance. This may potentially create a negative cash flow cycle due to a mismatch in credit terms and repayment schedules.

A revolving facility would sometimes, require the borrower to put up asset(s) as collateral or security. This is a result of the long tenure of the facility. This means the borrower’s asset(s) is going to be tied up for a long period of time. Imagine having to do this for a revolving facility if you do not utilize it frequently.

Conclusion

In conclusion, every borrower must evaluate their requirements and consider all options before coming to a decision. Often what may seem to be very attractive and helpful could be causing inefficiencies , leading to additional cost which could add up in the long run.

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Venture Debt – the Why, When and What

Why venture debt, why not banks?

The target market for traditional lenders (banks) are businesses with 3 to 4 years of operational history. Typically, they have metrics that are achievable by profitable businesses.

Some of the deciding factors that traditional lenders look at are:

Generally, early stage startups are non-profitable with unfavorable ratios. This is because their focus is on generating top-line growth. For instance, software startups usually have low current assets, typically reflected by low cash in bank. On the flipside, they have high current liabilities, illustrated by long conversion date of convertible notes.

Venture debt takes a flexible and creative approach towards financing startups by looking at other metrics that traditional lenders disregard.

When should I consider venture debt?

Venture debt is ideal for startups that are generating revenue, usually pre-series A and beyond. Typically these startups are raising their growth round to accelerate growth or undergoing expansion. Besides, it is also suitable for startups launching new products, have achieved profitability and/or are looking to fund an acquisition.

Furthermore, venture debts are typically complementary to an equity round. Some utilize a revenue-based financing model whereby the lender obtains a portion of the revenue/profit generated over a pre-defined period. Usually lenders step in to fund the customer acquisition cost or general operational activities.

Generally, there are two scenarios where startups could consider venture debt:

  • Firstly, as a bridge round. Startup has burn through their bank and is time to raise a Series B. However, KPIs have not been met to trigger favorable terms that the startup is looking for. Hence, startup decides to raise a small equity bridge round to lengthen runway by a few months. This ensures KPIs are met before moving on to Series B. To prevent dilution, the startup decides to raise a bridge round with a mixture of equity and debt.
  • Secondly, as a normal round. Startup is now raising its Series B round and is required to raise a projected amount of capital to create a safe runway towards their next milestone. To avoid massive dilution to the founders, the startup decides to raise a part-equity-part-debt round. This minimizes dilution while achieving a sufficient runway towards their next milestone.

What are some of the things to expect?

Many have raised questions regarding venture debt to me in the last 24 months. Here are some of my key takeaways:

1. Pricing and Structure

  • Most venture debt have a monthly repayment commitment with fixed interest and fee are through the loan tenor. Interest and fees vary from startups to startups, subjected to both macro and micro-economic factors.

2. Duration

  • Duration of due diligence and contract negotiation depends on the speed both parties are moving at. It is important for startups to prepare the necessary documents accurately and promptly to ensure a smoother process. Besides, startups should plan their cash requirement ahead of time as the negotiation process often drags out longer than expected. Depending on the venture debt firm, disbursement of capital can occur within 2-3 days after the execution of legal agreements. However, there could be a delay of up to 2 weeks to raise capital.

3. Warranties or Equity-kicker

  • A warrant is a stock option for the holder of the warrant. In this scenario, the venture debt can purchase equity from the startup under predetermined terms and conditions. For instance, the warrant permits the venture debt the right to purchase x number of stocks at $y for z years, and x is 100, y is 1 and z is 5. The venture debt can exercise the option to purchase 100 stocks at $1 in the next 5 years.
  • Equity-kicker is a clause where if certain conditions are met, the venture debt will receive an amount of equity on the startups during loan maturity.

Usually, warranties and equity-kickers require an approval from the board of directors as most startups prohibit these through their company’s resolutions.

For more information on your financing needs, kindly contact us!

Startup Loans Singapore: Finding the Right Working Capital Structure for Your Company

Are you a startup founder looking for startup loans in Singapore?

One of the biggest challenges for SMEs is securing working capital financing. There are many types of financing options readily available in the market, usually categorized into three groups – debt, equity or grants.

We will be breaking down the more commonly used debt instruments below, and briefly cover the grant and equity options as well.

1. Invoice Financing

Invoice financing is a debt instrument pegged to a value portion of an invoice. It will benefit businesses with clear-cut business transactions (hardware supply, services provider) that have long credit terms. Businesses can utilize advanced capital to shorten cash cycle and reduce stress on working capital. 

There are two forms of invoice financing

a) Purchase Order Financing

Purchase Order financing involves financing the supply side of the value chain. For example, Superstar Hardware Pte Ltd received a Purchase Order from All Goods Hypermart Pte Ltd for a total of 5 fridges and went ahead to place an order to purchase the 5 fridges from Supercold Fridges Pte Ltd. Then, a Purchase Order financier would pay Supercold Fridges on behalf of Superstar Hardware.

b) Receivables Financing

In contrast, receivables financing involves advancing outstanding payments from debtors whereby work contracted for has been completed. For instance, Superstar Hardware Pte Ltd successfully delivered all the fridges to All Goods Hypermart Pte Ltd and is awaiting payment under a credit term of 60 days. Then, a receivables financier would come in and pay Superstar Hardware on behalf of All Goods Hypermart.

2. Working Capital Loans

Working capital loans typically have a termed (monthly) or bullet (single) repayment arrangement. Financiers tend to look at the strength of the cashflow, financials and key ratios of a business seeking financing. Frequently, businesses take up working capital loan is to support their day-to-day operation requirements.

3. Project Financing

Project financing is a more bespoke debt instrument where a financier will provide capital in tranches based on a project’s milestones or requirements. It relies heavily on the record of accomplishment of the business executing the project. This is because most financiers are reluctant to finance business with a lack of references. When the business has a healthy track record for completing projects, debt financiers are more likely to extend this kind of instrument. 

Project financing benefits businesses that generate revenue from project execution (constructions sector as an example) with complex terms and milestones. This form of financing provides massive relief to businesses, freeing much needed cashflows to pursue aggressive growth. 

4. Grants

Next, grants are funds given by public body or government entities for various purposes to benefit the economy or public. Usually businesses that are not yet revenue generating benefit most as repayments are not required. They can utilize grants to hire additional talent, build products, and/or to fund research and development activities.

5. Venture Capital

Lastly, in venture capital financing businesses choose to sell a portion of ownership of their company in exchange for capital to fund their growth. Generally speaking, it is usually available to businesses that have hypergrowth potential and a clear path to an exit (an opportunity where financiers can sell their equity at a higher price for return). However, venture capital is not suitable for all businesses. It benefits companies with hyperscale potential that are capital intensive (usually much more than the revenue they can generate in the early days) to scale. 

Closing Thoughts

While working capital loans are suitable for almost every company, ranging from project financing to invoice financing, each financing option comes with pros and cons. Thus, understanding the type of financing available in each category is important as it helps business owners in sourcing for capital more efficiently (avoid barking up the wrong tree). 

For a more in-depth discussion on all the above and more, reach out to us at [email protected]! Happy to have a chat on the the startup loans available for your business in Singapore!