Entrepreneur's Handbook
FINANCING SOURCES TO FIND A DEBT
4.1. Spontaneous Funding
Spontaneous financing is a type of financing that is automatically financed while trading transactions. For example, spontaneous financing is provided when the entrepreneur purchases the goods or services to be used in his activities on a term basis. Payment is postponed when goods or services are received on credit Thus, simultaneously with the purchase of goods or services (spontaneously), financing is obtained from the seller in the form of commercial debt. Since it is difficult to find loans from banks due to the collateral problem in the first stage of the enterprise, the type of debt that the entrepreneur will use most at the beginning of the business is this type of financing, which is defined as commercial debts and is obtained by purchasing from sellers. Therefore, conducting business based on mutual trust relationships with suppliers, namely vendors, is vital for the continuity of the business. Since the entrepreneur is not well known at the beginning, even though the limit given by the seller (the amount allowed for forward sales) is low, the entrepreneur's making payments without delay will help to build trust on the other side and will allow the credit limit to increase over time. Other sources of spontaneous funding are listed below:
- Customer advances and advance collections
- Taxes and other liabilities payable
4.1.1. Commercial debts
As stated above, commercial debt is a financing situation that is provided when the purchase of goods or services is made on a term basis, in other words, the price is not paid immediately in the purchase of goods and services but paid after a certain period of time.
In this financing, if there is a purchase discount in the purchase of goods, the purchase discount that cannot be used because it will not be used will be the cost of this option. Therefore, the financing cost of trade payables increases as the purchase discount increases. Therefore, the cost of the unused advance discount must be taken into account. The magnitude of this cost should be compared with the costs of other financing options, and this option should be used. Especially in high inflation periods, this cost will increase even more, so it is extremely important to calculate the cost of commercial debts correctly.
4.1.2. Customer advances and cash collections
Customer advances and other cash collections are financing provided by collecting all or a part of the cost of the goods or services from the customer before the goods or services are offered to the customer. Although this financing is the ideal of every entrepreneur, it is not always possible to benefit from this opportunity. This option is a form of financing that can occur in featured (made-to-order custom made) goods or services. Customer advances and other cash collections have two different superior aspects. The first is to provide the necessary financing for free to manufacture or supply the relevant good or to provide the service. The second is to provide an assurance against the possibility of the customer abandoning his order. Since there are many sellers in the perfect competition market, it is not possible to benefit from this option for every production of goods and services. In order to benefit from this option, the entrepreneur must first produce special goods, that is, do a job in the market.
Here, at the same time as the order is placed, the entrepreneur is financed by the buyer.
4.1.3. Taxes and other liabilities payable
In order to encourage the producers and therefore the entrepreneurs, the state provides financing by collecting some collections such as taxes, social security contributions, etc. after a certain period of time after the events that cause tax. For example, both employee and employer share of social security contributions are not collected when wages are paid. One month financing is provided to entrepreneurs (businesses) by collecting at the end of the following month.
As can be seen, spontaneous financing sources are important sources of financing for entrepreneurs. These resources are generally short-term resources.
4.2. Bank credits
Entrepreneurs can obtain funds from banks as loans. As explained earlier, bank loans are generally short-term or long-term bank loans according to their terms. The banking sector loans provided to new enterprises and SMEs in Turkey are still low compared to most of the developed countries. SME loans are around 25% of total bank loans. On top of that, loan rates are also higher compared to these countries. In addition to these, the fact that most of the SMEs established by entrepreneurs in Turkey are micro-scaled enterprises with weak financial and institutional structures is an important factor that makes it difficult for such enterprises to access bank loans.
The various loans offered by banks to entrepreneurs and businesses in Turkey are briefly described below.
4.2.1. Current account with debt (revolving loan)
In this type of loan, the bank allocates a limit for the loan it can give to the entrepreneur. Within this limit, when the entrepreneur needs cash, the debtor withdraws money from his current account. The entrepreneur's withdrawal from the current account of the debtor means using a loan from the bank, that is, borrowing from the bank. In this type of account, the entrepreneur is advised to pay all or part of the amount withdrawn from the debtor's current account when cash is received in order not to pay much interest. The entrepreneur pays interest according to the time he holds the amount he has withdrawn from the debtor's current account.
Although the debtor current account has no specific maturity, it must be closed once a year. The bank calculates interest on the average balance quarterly and collects this interest in cash from the entrepreneur. Unlike the spot loan type described below in the debtor current account, the interest rate is not fixed and the calculation is made over the current interest rate on the day of payment. Therefore, when interest rates increase, the cost will increase accordingly. This account has an interest rate risk which is not available for spot loan.
The interest rate of this account type is higher than other loan types. Therefore, it is more suitable for meeting urgent cash needs.
These loans should definitely be used to finance short term working capital. Purchase of fixed assets (building, machinery, equipment, fixtures, etc.) is not suitable for use due to both liquidity risk and cost.
These types of loans are more suitable for entrepreneurs who do business with frequent but irregular cash inflows. (Aktaş, 2017).
4.2.2. Spot loan
Spot loan is a type of loan in which interest and principal are paid at once at the end of maturity. The most important difference from the debtor current account is that it has a certain maturity and is obliged to pay interest and principal at the end of maturity. Because of this feature, that is, it is not used for an urgent need, the interest is lower than the debtor current account.
In spot loans, the interest is determined from the start and does not change during the term.
Spot loan is suitable for entrepreneurs whose cash inflows are regular (depending on a certain maturity). When it comes to the entrepreneur's ability to make regular payments at certain maturities, the entrepreneur should use spot credit. The most important disadvantage of the spot loan is that, since it is used for a certain period, if there is a time period that does not need cash, interest is paid for this interval as well.
Let's give an example about overdraft current account and spot loan.
Entrepreneur is a popular hardware manufacturer in the market. Let's assume that this entrepreneur's sales are frequent and most of his sales are for cash. However, cash flows also be irregular. In other words, he does not know exactly how many hardware he will sell on which day and how much he will get every day. Suppose that he has to make a payment today to one of the suppliers providing input for this hardware, that is, the business that provided him with intermediate goods, but he does not have enough cash to make the payment. In this case, the entrepreneur can pay money from the debtor's current account. As the entrepreneur sells his product, he closes the debtor's current account with the cash obtained from sales. In this example, it is more advantageous for the entrepreneur to use the overdraft current account since the cash inflows are not regular. In this example, since the entrepreneur is expected to sell the stocks early, he will pay interest for the period he needs, and if he uses a spot loan, he will not have to pay extra interest for the period when the money is not needed.
In our second example, let the entrepreneur be a tailor-made producer. Let the entrepreneur give the customer a certain maturity in the collection after delivery to increase their sales. This entrepreneur will naturally need cash to purchase raw materials, pay labor, etc. Here, it is better for the entrepreneur to use a spot loan because he knows when to deliver the order and when to make the collection. The spot loan can be used as the entrepreneur gives a fixed maturity for collection in this example.
If you use a spot loan in the first case above, if you sell stocks early, you will pay extra interest for the period when you do not need the money. In the second case, if you use a debtor current account, you will be exposed to interest rate risk since you cannot determine the interest from the beginning, and you will pay more interest because the interest on this loan is generally higher. Therefore, choosing the appropriate loan is very important for entrepreneurs.
4.2.3. Discount (surrender) loan
A surrender loan is the payment of undue customer bills or checks by deducting interest and other expenses until maturity, in other words, discounting. Thus, the entrepreneur obtains cash without waiting for the maturity of the checks and bills in his hand.
When the entrepreneur has the bank discounted checks and bills, he cannot avoid the risk of not collecting the checks and bills. In other words, if the customer does not pay the bill or check, the bank turns to the entrepreneur to collect the amount of the check or note and collects the money from the entrepreneur.
As you can see, the discount loan is a loan that helps the entrepreneur find liquidity, ie cash money. This loan is especially suitable for entrepreneurs with a large amount of checks or securities from a customer. (Aktaş, 2017).
4.2.4. Installment Loans
Installment loans are also called cyclical payments. For such bank loans, which are more suitable to be used for investment purposes, the enterprise pays the interest and principal of the loan in monthly, quarterly, semi-annual etc. installments. These loans, which are used for investment purposes, ie to purchase tangible fixed assets such as machinery, equipment, office equipment, vehicles, may sometimes be preferred for stock purchases.
The maturity of installment loans is generally longer than a spot loan. Some loans with installment payments may also have a grace period. This period is important for the entrepreneur. Because at the beginning of the enterprise, things may not go as planned or income may occur due to unforeseen reasons, and expenses below expected may be higher than expected. That's why entrepreneurs often have more liquidity shortages early on. This grace period relaxes the entrepreneur in this respect. The entrepreneur only pays the interest for that period of the loan used in the non-repayable installment loan (Aktaş, vd., 2009).
When using these loans, the entrepreneur should calculate well how much interest is actually charged. Banks, if the entrepreneur does not have sufficient knowledge of "financial mathematics", can increase the actual interest rate by increasing the number of payments in the installment loan or by bringing the payments forward.
Installment loans can be used either in Turkish Lira or in foreign currency. This loan type, which is recommended for entrepreneurs whose income is in foreign currency, carries currency risk. It is extremely risky for entrepreneurs whose income is only in Turkish lira, that is, only doing business in the domestic market. Because, if the Turkish Lira depreciates, the cost of this loan may reach unpredictable points. There are two types of foreign currency loans, foreign currency indexed loans and foreign currency loans. The most important difference between foreign currency loans and foreign currency indexed loans is that foreign currency loans are exempt from all kinds of taxes, duties and charges, whereas foreign currency indexed loans do not. The condition for this exemption for foreign currency credit is to fulfill the export commitment within its term. When this commitment is not realized, taxes, duties and fees are taken back from the entrepreneur. Since there is no export commitment in foreign currency indexed loans, the entrepreneur using foreign currency indexed loans will have to pay all kinds of taxes, duties and fees.
4.3. Factoring
It is the cash inflow transaction provided by the entrepreneur's receivables arising or to be born from the sale of goods and services to the factoring company. The factoring firm provides the entrepreneur with finance and / or collection services. The most used types are:
- Full service factoring: In this factoring transaction, both financing and collection services are provided to the entrepreneur. In this type of factoring, the factoring company not only provides financing services to the entrepreneur by making a certain prepayment in return for its receivables, but also helps with the collection of the receivables. When the receivable is due, the factoring company makes the collection and pays the remaining amount to the entrepreneur by deducting the interest up to maturity and the prepayment amount. This type of factoring is divided into two, depending on whether the risk of collection belongs to the entrepreneur: While the type of factoring in which the entrepreneur is guaranteed for the collection of the receivables is called “irrevocable factoring”; the other is called "acceptable recourse factoring". In other words, while factoring company undertakes the non-payment risk in irrevocable factoring, it does not in the other. In other words, in recourse factoring, if the customer does not make a payment, the entrepreneur has to pay back the prepayment to the factoring company together with the interest.
- Maturity factoring: There is no financing service in the maturity factoring type, so no prepayment is made to the entrepreneur. The factoring company only provides collection service to the entrepreneur. In other words, the factoring company collects the entrepreneur's receivable at maturity and pays the remaining amount to the entrepreneur by deducting his own expenses.
- Invoice discount: Contrary to the previous one, the factoring company only offers financing service. The factoring firm makes an advance payment to the entrepreneur by deducting the interest and expense from invoice to maturity. In this transaction, the collection work is carried out by the entrepreneur. The entrepreneur collects from the customer and transfers the interest corresponding to the financing service to the factoring company. Even if the customer does not pay, the entrepreneur has to pay the invoice amount to the factoring company at the end of the term in any case. This type of factoring is the same in content as a discount (surrender) loan. The only difference is that the provider of the financing service is not a bank but a factoring company. (Ceylan and Korkmaz, 2003).
4.4. Financial Leasing
Financial leasing is the transaction of a financial leasing company purchasing a machine, equipment or real estate needed by the entrepreneur and giving its use to the entrepreneur in return for periodic lease payments and transferring the property to the entrepreneur at the end of the contract period with a symbolic price or free of charge.
Financial leasing provides the following advantages to the entrepreneur:
- It provides 100% financing opportunity including expenses. The tenant entrepreneur does not have to make any payments with his equity. However, some financial leasing companies can also receive a prepayment of 20% of the value of the asset in some asset leases.
- It is a form of financing that offers long-term financing, which is the most suitable borrowing term for fixed asset investment, to the entrepreneur.
- Since the payments made to the financial leasing company are made in installments, it ensures order in the entrepreneur's cash outflows.
- The fact that all purchasing and import transactions are carried out by the financial leasing company provides operational convenience to the entrepreneur.
In financial leasing transactions, the liability of the financial leasing company ends when it purchases the relevant asset and transfers it to the entrepreneur ready for use (including transportation, assembly, testing, etc.). Although the ownership of the asset belongs to the financial leasing company until the payment is over, all responsibility for the use now belongs to the entrepreneur. Therefore, all payment obligations such as maintenance and repair, taxes (property tax, motor vehicle tax, insurance work on the asset, etc.) pass on the entrepreneur. As stated before, another feature of financial leasing is the transfer of the asset to the entrepreneur at the end of the contract with a symbolic price or free of charge. As of this transfer, the entrepreneur fully owns the asset and can make any savings on the asset (such as selling it second hand). On the other hand, if the entrepreneur fails to fulfill its obligation regarding the payment of the rent within the contract period, the financial leasing company may seize the related asset.
Another type of leasing is operating lease, and all the responsibilities regarding the use in this lease belong to the leasing company. In other words, the lessor company has undertaken all maintenance and repair expenses, taxes, insurance premiums for the asset and other costs related to use. Unlike financial leasing, in operational leasing, the entrepreneur has to return the leased asset to the leasing company at the end of the lease term. In our country, operational leasing is mostly used for passenger cars and construction equipment. (Sayılgan, 2017).
4.5. Forfaiting
It is a type of financial resource that an entrepreneurial enterprise can use for export transactions. Forfaiting, which does not have much application area in Turkey compared to factoring, is mostly used in investment goods export transactions with a long term.
In the forfaiting process, the export entrepreneur sends the goods to the importer, which will be collected later. Generally, the term of this futures sale is longer than one year. The entrepreneur receives a policy from the importer stating that the payment will be made and bearing a bank guarantee. Later, it provides financing opportunity by transferring these policies bearing a bank guarantee to the financial institution (forfaiter) performing the forfaiting transaction irrevocably. Forfaiter pays the exporter by discounting the amount in the policy (Ceylan and Korkmaz, 2003).
4.6. Debt instrument issuance
Entrepreneurs who set up a business with joint stock company status can also obtain financing from the capital market in the form of debt by issuing debt instruments in the growth process, though not in the early stages of the business. The main debt instruments that can be issued in this way are corporate bonds and financing bills. The most important difference between them is the maturity of the debt instrument.
While the bond maturity is a debt instrument with a minimum maturity of one year, the financing bonus is a short-term debt instrument, which means a maximum maturity of 360 days. Financing bonds are generally sold at discount.
Permission must be obtained from the Capital Markets Board for both bond and financing bill issuance.