How to Finance Inventory

For any business that relies on inventory, securing one is vital for the survival of the company and for its steady growth. One effective way to ensure consistent inventory without straining cash flow is by getting a loan specifically for inventory financing. Whether you're a new business, seasonal retailer, or looking for bulk purchasing discounts, inventory loans can offer flexibility and quick access to needed capital. Here's a guide on various options to consider when getting a loan to finance your business inventory.

What Does It Mean to Finance Inventory?

Financing inventory is the process of purchasing supplies, wholesale goods, or other inventory with borrowed funds. There are many circumstances where an entrepreneur may consider financing inventory. Businesses often use this method to manage cash flow. If you're a small business owner thinking of getting a loan, inventory financing can help you meet customer demands without draining your cash reserves. 

Let’s look at a few more instances where business needs justify this type of loan:

Startup Businesses

Starting a new business is an exciting time for any business owner, but startup costs can add up quickly. Before being able to open your doors for business, you’ll need a significant amount of money to cover legal costs, licenses, and permits, advertising costs, real estate expenses, and more. If your new business idea includes selling products or finished goods, you’ll also need startup funds for inventory in order to meet customer demand. Getting a loan can help you buy inventory upfront and repay it later with revenues. When you apply for a loan or specifically a loan for inventory purchase, you ensure your startup has the goods it needs to open strong. Financing inventory gives new business owners the opportunity to make initial inventory purchases upfront and pay for it with future revenues.

Seasonal Fluctuations in Cash Flow

Some business plans include an expectation for seasonal fluctuations in revenues, like entertainment venues, holiday merchants, swimming pool manufacturers, and more. For these types of businesses, it can be difficult to plan for busy seasons when inventory turnover is rapid, but it is a financial risk to run out of inventory. Seasonal business owners often apply for a loan online to quickly secure funds and buy inventory, then repay when sales pick up.

Cost Savings

Often suppliers and manufacturers offer a discount on large purchases. If the inventory your business needs can be purchased in bulk at a lower price per unit, inventory financing can give you the capital you need to make the purchase. Reducing the overall cost of your inventory can help you increase annual revenues and generate a profit faster. Small business owners can consider getting a loan for bulk purchases, ensuring they never miss savings opportunities.

What Are the Pros and Cons of Inventory Financing?

Just like any other business decision, there are pros and cons of financing inventory. It is important to consider how borrowing funds to purchase will impact your business in both a short-term and long-term capacity.

Benefits of Financing Inventory

The most obvious advantage to financing inventory is that it allows you to be able to cover the costs of your inventory needs at any time. Banks might take weeks to approve traditional loans, but some of the best online loans with instant approval let business owners secure funds in just a few days. 

Another benefit of using inventory financing is the flexible eligibility requirements. Since lenders that specialize in inventory financing don’t rely on credit alone to approve borrowers, even new businesses or those with less-than-perfect credit can qualify when they apply for a loan. Plus, borrowers can take advantage of the lower interest rates offered with secured loans without pledging business assets as collateral.

Disadvantages of Financing Inventory

While there are many benefits to financing your business’s inventory, there are also some disadvantages to this type of small business loan. Loans, lines of credit, and vendor repayment terms can be expensive, so entrepreneurs must evaluate whether the profits justify the cost before getting a loan.

Types of Inventory Financing

Business owners looking for the capital necessary to finance inventory generally turn to a lender to evaluate their options for loans, lines of credit, or other financing agreements. For most inventory financing methods, the lender will need to evaluate the creditworthiness of the borrower to approve funding. Creditworthiness reveals the borrower’s ability to repay the funds by measuring the business credit score, the company’s reputation, time in business, and loan payment history. However, credit is not the only factor in determining if an entrepreneur will be able to borrow funds to purchase inventory. Some financing agreements rely on a type of collateral to secure the loan, which may be future sales or the inventory itself.

Short-term Loans

Short-term loans are a traditional type of financing arrangement where the borrower receives a lump sum of money upfront and repays the funds over time according to a predetermined repayment plan. Inventory loans for the purpose of financing inventory are typically short-term, which means that the borrower is expected to repay the financial institution in two years or less with monthly payments of principal and fixed interest rates.

Since short-term loans for inventory financing are secured by the purchased inventory, the lender can offer lower interest rates than other unsecured loan arrangements. However, that also means that if the borrower defaults on the loan or does not make their monthly payments according to the loan agreement, the lender can seize the new inventory. Some lenders may also require a down payment of up to 20% of the inventory costs, which is paid directly to the wholesaler or supplier. So, business owners should carefully assess their ability to repay before getting a loan for inventory.

Business Line of Credit

 A business line of credit is another great option small business owners use to finance inventory. Lines of credit are a type of revolving credit that works similarly to a business credit card. You can apply for a loan online, making it a convenient choice. The line of credit lets the business access the funds needed for inventory at any time by extending borrowers with an approved maximum credit limit. As payments are made on the balance, the funds become available for use again. A line of credit may be secured, where the inventory serves as collateral, or unsecured where the repayment plan and loan terms are not connected to the value of the inventory. 

Vendor Financing

Some vendors, wholesalers, and suppliers extend credit to approved applicants which allows them to order the inventory they need and pay for it in instalments. Before approving a credit limit for customers, the vendor will request a completed credit application in pursuit of some due diligence. The application process may include a credit check, which includes running a copy of the business credit history and the business owner’s personal credit report, and reference checks, where other suppliers or vendors used by the business are contacted. So before getting a loan such as this one, you need to keep these documents and reports ready with you. 

Invoice Factoring

Invoice factoring is a type of accounts receivable financing where a business can sell its unpaid invoices to a factoring company. Invoice factoring typically works when the factoring company advances funds to the business for up to 90% of the value of the invoices, the company then collects for the invoices, on the business’s behalf, and disperses any amount, less their fees and financing costs, back to the business. The fees collected by the company are called factor fees and are calculated according to a factor rate, disclosed in the original factoring agreement. Invoice factoring companies do not issue funds based on credit decisions, so they are a good option for entrepreneurs that need to buy inventory but have bad credit or are a startup business with no established payment history.

Merchant Cash Advance

A merchant cash advance (MCA) is another common method used to finance inventory. An MCA is not a loan, but a unique financing agreement like a cash advance arrangement. The borrower receives a lump sum payment upfront to make the inventory purchase and the debt is repaid with future credit card or debit card sales. MCAs are popular with retailers and business owners in hospitality industries. The payments are made weekly or monthly and calculated as a percentage of sales, so if the business is slow, payments will be low.

How to Secure Inventory Financing

Finding the right inventory financing and getting a loan is just like connecting with any other small business financing tool. There are several resources available on the internet that can help you find the right inventory financing for you. If you're thinking about getting a loan, other methods might include asking business associates, friends, or family for references on how to apply for a loan or specifically a loan for inventory purchase.

Vendors

If you're considering getting a loan to secure inventory financed directly from the vendor, you’ll want to reach out to your suppliers directly. Vendors that offer supply credit will provide new customers with a credit application to apply for a loan. The application process may also include a request for contact information of other suppliers. When you're getting a loan from vendors, they might request a copy of your business’s financial records before making a credit decision for your loan for inventory purchase.

Traditional Lenders

Traditional lenders include banks and credit unions. When getting a loan through traditional lenders, keep in mind not every financial institution provides inventory financing options. But if you are interested in getting a loan, start with a bank where you already have a business bank account. If the bank has financing options for inventory, they may ask you to provide some documentation along with a credit application including:

• Income tax returns
• Financial statements
• Employer Identification Number (EIN) from the IRS
• Debt schedules
• Credit report
• Inventory appraisal

 Alternative Lenders

Alternative lenders, including online lenders and marketplaces  often offer convenient options for small business owners interested in getting a loan for inventory. They are preferred due to the ease of applying for the best online loans with instant credit approval. Inventory financing agreements with alternative lenders may be in the form of a small business loan, merchant cash advance, or a line of credit. Alternative lenders typically offer an online loan application process and may ask for some of the documents listed above to be uploaded with the application. The funding time is much faster than with traditional bank loans.

Alternative Small Business Financing Options

While getting a loan for financing inventory is a great option, it is not the only way to secure capital for your small business. Some alternative financing options may include using funds from a personal savings account to purchase inventory or making smaller purchases while the business is still in the building phase. Some small business owners prefer to seek out peer-to-peer (P2P) loans, apply for personal loans, or turn to one of the following financing options.

Crowdfunding

Crowdfunding is a popular alternative to getting a loan from traditional lenders. It involves the process of collecting small investments or donations from multiple sources. The donations may be reward-based where the donor expects something in return, equity-based where the contribution is given in exchange for ownership in the company, or simple donations. Crowdfunding has grown in popularity throughout the last couple of years thanks to an abundance of online crowdfunding platforms like Kickstarter and GoFundMe. 

SBA Loans

If you're thinking about getting a loan, SBA loans backed by the U.S. Small Business Administration can be another excellent alternative. The funds are issued by an SBA-approved lender, but the government guarantee makes these loans lower risk for the lender so down payments and interest rates are lower than other business lending arrangements. There are multiple loan programs through the SBA including the SBA 7(a), 504 loans, Microloans, and Express loans. Some SBA loan programs determine the permitted use of the funds, so not all programs are right for inventory financing. Microloans and some 7(a) loans do not restrict the use of funds, so they may be a great option for business owners that need to purchase inventory.

Conclusion

There are multiple ways of getting a loan to finance your inventory, just make sure the terms work for your balance sheet. Whether you finance the full loan amount needed for your inventory or just a percentage, you don’t need to be afraid to take out a loan.

FAQs

What are the main advantages of getting a loan for inventory financing?  

Inventory financing through getting a loan allows businesses to manage cash flow effectively, quickly purchase inventory, and maintain consistent stock levels. It helps businesses capitalize on bulk purchase discounts and prepares them for high-demand seasons without depleting cash reserves.

Can startups easily apply for finance inventory online?  

When it comes to getting a loan, startups or new businesses can easily apply for one through alternative financing platforms. These platforms often have less stringent eligibility requirements and provide fast loan decisions, making it easier for new businesses to secure essential inventory quickly.

What credit score do I need when getting a loan for inventory purchase?  

The credit score requirements vary by lender. Alternative lenders usually offer more flexible credit requirements compared to traditional banks, allowing businesses with lower credit scores to apply for loan online and receive quick approvals.

Is it better to choose a short-term or long-term loan for inventory purchase?

Choosing between short-term and long-term loans depends on your inventory turnover rate and financial situation. Short-term loans suit businesses with rapid turnover, while long-term loans can be beneficial for large, costly inventory that takes longer to sell.

Are there any fees associated with getting a loan for inventory?  

Inventory financing loans generally include interest rates and potential processing fees. Before getting a loan, carefully review loan terms and any associated fees to ensure that the overall cost aligns with your business financial plan.

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