Even advisors need advice sometimes. This is the first in our new series providing practical, actionable advice for business advisors, non-financial experts or other professionals navigating the financial frontline for their clients. Funding myths is an important place to start.

If you need further insights, we’re here to provide considered, accredited financial expertise when your clients need us.

When a client needs finance quickly, assumptions can sometimes take the place of proper scrutiny.

“The repayments look manageable.”

“It is only a short-term facility.”

“We can refinance it later.”

While at first pass, each statement may sound reasonable, this isn’t enough to establish whether the funding is appropriate, affordable or likely to improve your client’s position long-term.

As commercial finance specialists, we scrutinise the financial deals we source for our clients in minute detail.  Here’s our guidance on the assumptions you need to challenge before your client commits to funding for their business.

Myth One: The monthly payment figure tells you whether funding is affordable

The monthly payment is only one part of the commitment your client is signing up for.  Here are some key questions to ask the funding provider before they sign:

• What will the business repay in total?
• What interest rate will they really pay?
• How often are payments collected?
• Can they repay the loan early?
• Are there arrangement, exit or other fees?
• Is security or a personal guarantee required?
• What happens if a payment is late?
• Has the commission been disclosed?

Next, model existing and any additional repayments your client is considering in the same cash flow forecast, tracking this and other outgoings against income forecasts. You’ll now have a better picture on whether the business will be able to meet its repayment obligations, particularly against quieter months or if unexpected challenges occur, such as late payments from their customers.

Myth Two: A short-term loan creates less risk

This is an easy trap for businesses to fall into. In reality, while a shorter term may reduce the period of borrowing, it usually concentrates repayments into fewer months creating immediate and often intense pressure.

Consider the commercial purpose for a loan. Does the repayment schedule match the value it’s creating? For example, if the loan is to create working capital, the asset, project or contract being funded will create value over several years. A loan that requires the business to repay the finance within a few months may create an avoidable mismatch.

Funding for long-term equipment should not normally depend on an unrealistically rapid return and there may be better options available. We will help if you need some guidance on funding options to avoid creating an avoidable amount of pressure for your client.

Myth Three: If your client has cash flow problems, another loan isn’t necessarily the answer

This may be the right solution in some cases, but more often than not, adding another loan to a business under pressure simply postpones the problem and adds another repayment to their financial burden.

If the client regularly has to wait for customers to pay, it’s worth investigating the underlying cause. From late payment terms to weak credit control, new solutions may emerge when you understand the cause. This might involve agreeing staged payments, negotiating supplier terms, reducing costs or using invoice finance.

Bear in mind, though that while invoice finance is undoubtedly useful to release cash tied up in unpaid invoices, it has its own costs and eligibility requirements (we have considerable expertise here if you want to know more).

Before recommending more borrowing, make sure you know whether or not the cashflow problems are likely to return. Tackling the root cause is going to be more effective than layering on new loans.

Myth Four: An approval means the business can afford the loan

This is an understandable but dangerous assumption. A lender’s approval is not a substitute for your client’s own assessment of their ability to repay for finance taken.

Different lenders have different appetites for risk. They have varying security requirements and following different pricing models. Regardless of the lender’s methodology for approving finance, your client has to be responsible for deciding whether the funding they’re considering is the right solution for their business and whether it can be repaid.

You can help by guiding them to test affordability against a realistic cash flow, not an overly optimistic sales forecast. Get them to consider what would happen if turnover reduces, costs increase or projects are delayed. If repayments will be tight under normal operations, how will they manage if things don’t go to plan?

Your Checklist

Some warning signs for you to consider include the following:

• the purpose of the funding is vague
• the client cannot explain the total cost
• pressure is being applied to sign immediately
• existing borrowing has not been fully disclosed
• repayments depend on highly optimistic growth
• commissions, fees, security or personal guarantees are unclear
• early repayment is not an option
• the new facility is primarily covering existing repayments
• management information is incomplete or out of date.

If you don’t think your client has the full picture, we can support you as you guide them to the best funding option for their needs.

We regularly work with advisors who want their clients to understand the full borrowing picture, providing a neutral and expert perspective that supports you while you preserve your relationship with your client.

For a confidential conversation on how you can best support your clients, please get in touch. You can call us on 0203 327 0567 or request a callback at www.pegasusfunding.co.uk/contact.