By Nicole Hall, Solidus
When a company is seeking financing, it has several options to consider – the source of the loan, and the type of loan. and each has its own plusses and minuses:
Traditional Bank Loans: These are loans obtained from traditional financial institutions like banks. They often have favorable interest rates and terms but can be challenging to qualify for, due to stringent requirements.
Benefits: Typically offer lower interest rates and longer repayment terms.
Drawbacks: Stringent eligibility criteria, longer approval process, and collateral requirements can make them hard to access.
Private Construction Loans: Private construction loans supplied primarily by high net worth individuals or Family Investment offices, provide flexibility and speed, making them suitable for real estate developers, contractors, and construction companies. They offer short-term financing and are usually backed by real estate or other assets.
Benefits: Fast approval, flexible terms, and short-term financing options.
Drawbacks: Higher interest rates compared to banks, potentially lower loan amounts.
Trade Credit: Trade credit is an arrangement with material suppliers or distributors that allows contractors to purchase materials on credit. It’s advantageous for short-term cash flow needs.
Benefits: Convenient for materials, often interest-free within the repayment window.
Drawbacks: Short repayment window, limited credit, lengthy application process.
Line of Credit: A line of credit from a bank is a revolving source of funds that businesses can draw upon as needed. Interest is only paid on the amount used, offering flexibility.
Benefits: Provides funds as needed, interest only on the borrowed amount.
Drawbacks: Higher interest rates, stringent credit and financial statement requirements.
Project Cost Financing: Lenders (primarily banks and private equity groups) specializing in construction provide financing to cover upfront job costs, aligning repayment with the project’s billing cycle. This option can be beneficial due to low credit requirements and quick turnaround times.
Benefits: Deep industry knowledge, no credit check or financial statements required, quick turnaround.
Drawbacks: Financing fees may apply.
Invoice Factoring: Contractors sell outstanding invoices to factoring companies in exchange for immediate cash, allowing for better cash flow management.
Benefits: Relies on the customer’s credit, no ongoing payments, factor handles collections.
Drawbacks: Only available after invoicing, customers may be uncomfortable paying a third party.
Equipment Financing: Companies can obtain loans (usually from the equipment provider, such as John Deere, Caterpillar, Ingersoll-Rand, etc.) to purchase operational equipment, with the equipment serving as collateral, usually resulting in lower interest rates.
Benefits: Lower interest rates due to collateral, improved productivity.
Drawbacks: May require a down payment, equipment can be repossessed if payments are missed.
Private Hard-Money Lenders: These lenders offer construction financing when traditional lenders are not an option. They often focus on specific locations and property types, providing flexibility in location and terms.
These options vary in terms of eligibility, terms, and the specific financial needs they address, allowing businesses to choose the one that best fits their requirements.
Benefits: More flexible than banks, location-focused lending, quicker approval.
Drawbacks: Higher interest rates, specific lending requirements, and limited availability.
Each financing option has its unique advantages and disadvantages, making them suitable for different business scenarios and financial needs. Companies should carefully assess their specific situation to determine which option aligns best with their goals and constraints.
In addition to the source of the financing, a company also has to consider the type of financing that’s appropriate and relevant to its needs. Solidus is a company providing retention and procurement loans to the construction industry in a unique arrangement that has gained advocates in the industry.
What’s a retention loan?
A retention loan, often referred to as a “retainage loan” or “retainage financing,” is a financial arrangement used in the construction industry. It addresses a common practice in construction contracts where a portion of the contract price, typically a percentage (e.g., 5% to 10%), is withheld by the project owner or general contractor as a form of security or guarantee until the construction project is completed satisfactorily.
For many construction businesses, the retainage payment accounts for a large portion of their profit on the project. Waiting to collect all or part of the retained funds can create cash flow issues for the contractor, on funds it has already earned. Subcontractors may complete their portion of the work then wait for the entire project to finish before they’re paid in full. Meanwhile, in those months, they still have to make 100% of their payroll, 100% of their material cost, 100% of their equipment rental and 100% of their overhead, while only receiving 90% of the cash earned revenue on every job. Solidus offers an alternative financing solution for contractors and subcontractors to increase their cash flow and turn retention into cash.
Here’s how it works:
Retention loans are designed to provide contractors or subcontractors with access to the funds withheld as retention during a construction project before the project’s completion. This can help them address immediate cash flow needs, such as paying suppliers, subcontractors, or labor costs, without having to wait until the project concludes.
Repayment: Once the project is complete, and the retention is released by the project owner or general contractor, the contractor or subcontractor uses those funds to repay the retention loan. Any remaining funds beyond the loan amount and associated fees become the contractor’s profit.
Benefits: Retention loans offer several benefits, including improved cash flow during the project, which can help contractors meet financial obligations promptly. This, in turn, can help them take on more projects, pay vendors on time, and maintain a positive financial reputation in the industry.
Drawbacks: While retention loans can be a useful financial tool, they come with interest and fees, reducing the overall amount retained by the contractor. Contractors must carefully assess whether the benefits of accessing the funds early outweigh the costs of the loan.
In summary, a retention loan is a financing option that allows construction contractors or subcontractors to access funds withheld as retention during a project before its completion, helping them manage cash flow and meet financial obligations.
What’s a procurement loan?
A procurement loan, also known as a “purchase order financing” or “PO financing,” is a specialized type of business financing designed to help companies fulfill large customer orders or contracts, particularly when they lack the necessary funds to cover the cost of purchasing materials, goods, or products required to complete those orders.
Here’s how a procurement loan works:
Procurement loans are used when a business receives a substantial purchase order or contract from a customer but lacks the financial resources to buy the necessary materials or products to fulfill that order.
Accessing Funds: To secure a procurement loan, a business typically partners with a financial institution or lender specializing in this type of financing. The lender assesses the creditworthiness of the customer who issued the purchase order, as their ability to pay is crucial for loan approval. If approved, the lender may provide funds directly to suppliers or manufacturers, ensuring the necessary materials or products are delivered to the business.
Fulfilling the Order: With the funds from the procurement loan, the business can purchase the required materials or products and proceed to fulfill the customer’s order. This can include manufacturing, assembling, or delivering goods or services.
Repayment: Once the customer pays for the order, the business repays the procurement loan along with any associated fees or interest. The lender deducts their fees from the customer’s payment and provides the remaining funds to the business.
Benefits: Procurement loans enable businesses to accept and fulfill large orders that would otherwise be beyond their financial capacity. This can lead to increased sales, expanded market opportunities, and improved business growth. Additionally, these loans are often easier to secure than traditional business loans because they are primarily based on the creditworthiness of the customer.
Drawbacks: Procurement loans come with fees and interest, which can reduce the business’s profit margin. Businesses must carefully assess whether the potential profit from fulfilling the order justifies the cost of the loan.
In summary, a procurement loan is a specialized form of financing that helps businesses fulfill large purchase orders or contracts by providing funds to purchase the necessary materials or products. It can be a valuable tool for businesses seeking to expand their operations and take advantage of significant sales opportunities.
What lending options does Solidus offer?
Solidus offers construction loans tailored to the needs of the construction industry, primarily serving contractors and subcontractors. These loans are designed to provide flexible, timely, and customized financing solutions for construction projects, setting Solidus apart from traditional lenders in several ways. We distinguish ourselves by focusing exclusively on construction project financing, offering speed, flexibility, short-term solutions, and lower LTV ratios. Our goal is to address the funding challenges faced by contractors, ultimately facilitating the growth and success of the construction sector. This specialized approach sets Solidus apart from traditional lenders that may not fully understand or meet the specific needs of the construction industry. We’ll be glad to tell you more about our clients and the loans we have provided to subcontractors.
About the Author:
Nicole Hall is one of the founders of Solidus, along with Jeff Hall and Harold “Rob” Robinson. Solidus is a team of construction professionals and advisors revolutionizing the construction industry by offering subcontractors ethical loans at economical prices, making cash flow easy for them to acquire. For more information and a free consultation, please visit https://www.solidusco.com/
