How to finance your growth phase if the house bank is no longer willing to support?

25th April 2019
7 min read

Even if the media likes to report on ambitious startups that earn a lot of money with a profitable exit, in practice no founder knows exactly what to expect after the foundation. A high is followed by a low and vice versa – but typically a startup company usually goes through the same, categorisable development phases. Each of these phases has different challenges to overcome and different risks and opportunities to contend with. Finding the appropriate financing for each development phase should not be underestimated for success.

While for Seed and First Stage there is a wide range of funding opportunities, experience shows that startups face a major challenge during the growth phase: the story has been developed, the product has been launched and demand is rising – all reasons to be happy. But how should growth be financed? More demand, more customers, more orders, more to produce/install/perform…. Cool! This is what everyone has been working towards: The young company is running at full speed and is already generating more sales in a short time. And by the way, more invoices are written – it’s only logical….

The story has been developed, the product has been launched and demand is rising – all reasons to be happy. But how should growth be financed?

First payment defaults cause disillusionment

However, what often nobody thought or wanted to think about on the wave of enthusiasm is the fact that not every bill will be paid later. Unfortunately, this is a sad reality – yes, even in Germany.

“In particular, founders who work in the B2B segment then have a problem,” reports Axel Kahl, Key Account Manager for startups at A.B.S. Global Factoring AG. “If you win new corporate clients as a founder, you are extremely happy and see your product scale. You have reached a big milestone. But – who knows how reliable these customers are?”

Axel Kahl knows from his practical experience that both, the own solvency and/or the willingness to pay invoices on time are not always a given fact among the customers. “Many clients want to test the new supplier first. This puts the accounting department of the startup company to the test. I know many founders who have outsourced their accounting to an accounting service or a tax consultant. Some founders also take care of everything themselves, at least in the beginning, or have created an internal part-time position. An intact commercial department with well-rehearsed processes from accounts receivable management to dunning – which startup is actually organized that way?”

Development and marketing are usually the focus. And as a consequence, startups are euphoric about customers without knowing them beforehand or even checking their identity or creditworthiness. The larger the environment that is supplied grows, the less do reports and experiences from the circle of acquaintances help. For foreign debtors the effectiveness of the personal network usually ends anyway.

Second challenge: Long payment terms

In addition to the risk of unexpected payment defaults, there is often another risk, Axel Kahl points out. “Recently, I met a startup from the health sector. Its customers include not only a few corporates but also public sector organizations, such as public offices, cities or schools. Although payment is reliable here, relatively long payment periods are common. You won’t get your money in 2 weeks, but with good luck in 2 months.”

Contracts between trade or logistics and public clients provide payment terms of one to even three months. The same applies if the customers are large corporations. In these cases, the time between service provision, invoicing and ultimately the receipt of money has to be bridged in terms of liquidity and this forces some ambitious project to its knees. Without sufficient liquidity it will be difficult to pay your own people, buy new material, run marketing or cover other running costs.

Normally, the house bank provides a small credit line for such situations. But the so-called current account framework will not be sufficient to fill liquidity gaps in the event of strong increases in turnover. Furthermore, high demands will be made for collaterals. So what is the solution? Again ask the shareholders or investors for a new cash injection? Axel Kahl advises in this case: “If you are scaling up as a startup, you simply need more partners than the house bank to accompany you. The magic word in corporate financing is called FINANCING MIX. Every experienced and reputable business consultant recommends the use of factoring at this stage, namely full-service factoring, please!”

The solution in a nutshell: Full-Service Factoring

Full service factoring kills several birds with one stone, Axel Kahl explains the advantages further:

  1. You get your money immediately. The question of when your customer finally pays no longer burdens you.
  2. With full-service factoring, the entire dunning process is handled by professionals. And if the going gets tough, the factor also takes over the legal dispute and collection and you don’t have to deal with these processes yourself.
  3. Should all efforts fail or should the customer even be broke, such a failure will not be at the expense of the startup. This brings real security to the calculation.
  4. You can already check the creditworthiness of the potential customer before a deal.

I affectionately call this the “all-round carefree service for future Unicorns”.

Unicorns – that sounds big, but Axel Kahl has always remained pragmatic and down-to-earth despite his versatile career in Finance & Banking. “For me, what counts is trust in a product and the relationship with the people behind it. As a true Leipzig native, I am of course also proud of the steadily growing startup ecosystem in the eastern part of Germany. It’s a lot of fun to work here and to work together with founders to advance ideas. The high affinity to my job comes not least from my own experience – I have already worked in two different startups and know the challenges that have to be mastered. I owe respect and I am passionate about their success. We definitely need new startups: for technological progress, the spirit and the sustainability in our country”.