Secondary Financing 101
The financial turmoil that today’s economic conditions have thrown many businesses into has made it even more important than ever that companies have access to financing options when they need it. Unfortunately, many business owners are not aware of their options, and without access to capital in a timely manner, it could threaten their business’s survival. One important financing option that business owners should consider is the secondary financing arena.
What is secondary financing?
Secondary financing is a term associated with non-prime or non-bank financing and comes in different forms such as (a) using the excess equity in your commercial building to raise a second mortgage or to pledge as security with a lender to provide a short-term working capital loan or (b) factoring which is the financing of your accounts receivable and inventory through a factoring lender or (c) financing new equipment through a stand-alone loan from an equipment lender.
Typically, secondary financing is not the ONLY funding and usually coexists with the company’s regular bank lines.
Compared to a conventional loan, the terms on secondary financing tend to be quite different – e.g. The term of the loan is usually shorter (1-3 years as opposed to the 5-7 years for conventional), rates and fees are also higher and, in most instances, secondary financing is interest only with the full principal coming due at the end of the term.
What is secondary financing used for?
As explained earlier, secondary financing is used to complement existing financing. The following is an example:
A company gets a new contract that requires additional equipment and an increase in inventory and account- receivable, but the company’s bank won’t fund the required increase. Secondary funding fills the void as follows:
Equipment is funded through a term loan from an equipment lender
Inventory and receivables are funded through a factoring are asset-based loan arrangement
The secondary financing takes security over the assets it is funding and an inter-lender agreement is signed between the company’s bank and secondary lender.
How do payments for secondary financing work?
The interest rates on secondary financing are typically higher than those of primary financing, coming in at roughly 9%-12% plus lender fees.
These loans are usually interest-only which eases cashflow. However, as the principal is not owed until the end of the loan term, the borrower must always be cognisant of the obligation of the repayment of the loan, and factor this into their cash management projections.
When should a business owner consider secondary financing?
Business owners should consider secondary financing to fill a gap created through growth or to implement a business initiative. For example, a developer building a condominium complex knows he will see a profit once the building is complete and the condos sell. In the interim, in order to get to the building permit approval which will trigger the construction loan, the builder will need to do the work to get the property site plan approved which requires funding for planners, architects, etc. If the builder does not have sufficient of his own equity, secondary financing is a perfect vehicle.
Contact CORFinancial today!
If you are interested in obtaining secondary financing for your business, contact CORFinancial today. A member of our team will help you find the right lender and type of loan to support your business.