Between 2020 and 2024, the global legal cannabis industry size is poised to grow by a mind-boggling $27.89 billion. The explosion of cannabis products has been phenomenal in recent years, thanks to the attention that marijuana is garnering from researchers, manufacturers, and investors.
As cannabis continues to gain widespread acceptance, cannabis businesses continue to pop up by the day. In the US alone, over 340,000 jobs are devoted to the handling of cannabis plants.
But while the cannabis sector is a lucrative one, many cannabis companies still face cash flow problems. Many often rely on cannabis inventory financing to cover cash flow gaps.
But exactly what is cannabis inventory financing? How can you apply for this sort of financing? What are its benefits and disadvantages?
If you are asking these questions, you’ve come to the right place. In this comprehensive guide, we tell you all you need to know about inventory financing for cannabis businesses.
Challenges that Cannabis Businesses Seeking Financing Face
Before we talk about inventory financing, it helps to point out that cannabis companies face unique challenges when it comes to financing. Sure, recreational and medical cannabis is legal in an increasing number of states, but that doesn’t mean you’ll have it easy accessing business loans.
Cannabis is still a controlled substance at the federal level, whether it is legal in your state or not. For that reason, it’s nearly impossible to get financing from traditional financial institutions, such as credit unions and banks. These traditional financial institutions also hardly ever provide real estate or equipment finance options.
Banks are also expected to adhere to the Bank Secrecy Act. This act requires them to flag transactions that reach or exceed $5,000 that might be connected to cannabis sales or other suspicious activity. Your credit card is also off-limits as a result of the regulations we’ve mentioned before.
With all these financing roadblocks, many cannabis businesses have had to primarily conduct operations in cash. This presents the additional challenge of finding safe storage for cash.
Thankfully, commercial lenders have emerged in the last few years that specialize in providing cannabis business loans. Today, you can also access financing for your cannabis business from a nationally recognized financial company that provides other types of loans, including real estate loans. For many cannabis businesses, inventory financing from these lenders makes the most sense.
What Is Cannabis Inventory Financing?
Inventory financing refers to a short-term loan that is backed by your business asset, specifically your cannabis business inventory. This type of business financing gives you a capital advance to purchase the products you need.
The lender provides capital directly to your vendor and the same inventory you purchase acts as collateral in case you’re unable to sell the products and pay back the loan.
Often, cannabis businesses face cash flow challenges as their suppliers require payment within a shorter period than the inventory is sold.
Types of Inventory Financing
There are two types of cannabis inventory financing that cannabis business owners can use to get working capital. In both, your inventory is leveraged as collateral. However, each means a different thing for the future of your cannabis company’s financing.
Let’s look at each of the two financing options more closely.
Inventory Loan
An inventory loan refers to a loan that’s directly based on the value of your cannabis inventory. The loan is similar to a regular business loan in that it is for a specific amount that you pay back in installments over a fixed term. The loan can also be repaid in one lump sum amount upon the sale of your inventory.
The lender requires you to repay the entire full amount before taking another loan.
Inventory Line of Credit
Unlike an inventory loan where you can only use the funds once, an inventory line of credit provides the borrower with extra money on an ongoing basis. Most business owners prefer this financing option as it makes it possible for you to handle unforeseen expenses that may crop up.
When taking an inventory line of credit, you may have to sign an agreement that establishes terms and conditions with your lender. This agreement is for a long-term funding partnership.
Steps of Inventory Financing
Generally, inventory financing has four main steps. First, your cannabis vendor ships the inventory to you and issues an invoice. Typically, the invoice is due in 30 days.
Once you’ve received the product, you request financing from a lender, who then sends an advance to the vendor. This advance covers the entire invoice.
You then sell the product to your customers.
The final stage is repaying the invoice amount, in addition to all the accrued interest, to your lender.
Note that under this financing model, the lender pays the vendor directly. The loan starts to accrue interest only when you use it.
Most lenders provide a loan term of up to 90 days.
Advantages of Cannabis Inventory Financing
There are plenty of reasons that cannabis business owners prefer cannabis inventory financing to other financing solutions. Let’s look at some of them.
You Get to Meet Customer Demand
With demand for cannabis products constantly on the rise, chances are times will come when you run critically low on inventory. Even worse is having to inform your customers that you’re out of stock. Inventory financing saves you from that and helps you keep your customers happy.
You Don’t Need Personal Collateral
Many types of business loans will require the lender to pledge certain personal assets as collateral. These assets may include your car or home. As long as you’ve not completed repaying the loan, you’ll stay nervous as you run the risk of losing your asset.
Inventory financing works differently. Since the inventory is the collateral, you don’t need to fear losing your personal asset.
You Get Funds Quickly
Generally, inventory financing involves less paperwork than conventional loans. The loan also gets approved quickly, provided the borrower meets the requirements. This is a huge relief when you need inventory quickly to keep your business running.
You Don’t Need to Worry About Credit Score
One of the top reasons borrowers get turned down by lending institutions is a poor credit score. Thankfully, this is the least of your concerns when you’re applying for inventory financing. Your lender considers the inventory as collateral and couldn’t care less about your credit score.
Cons of Inventory Financing
While there are lots of good things to be said of inventory financing, there are certain setbacks that you need to be aware of before applying for it. Here are two of them.
Getting Approved Isn’t Always Easy.
Sure, the inventory loan application process is quick and easy, but the approval isn’t. Remember, lenders consider the merchandise as collateral, so they need to assess how risky your business is.
If your lender determines that you’ll have a difficult time selling the inventory, it means that if they end up with it, they’ll equally find it difficult to unload it. Your lender must be sure that your product line has high potential before approving the loan.
Interest Rates Are Higher
In inventory financing, no personal guarantee or collateral is involved besides the inventory. Lenders thus feel the need for extra security, which means higher interest rates for the loan.
What You Need When Applying for Inventory Financing
The inventory loan application process varies from company to company. However, given that the financing model is based on the likelihood of the business selling the merchandise in the near future, most lenders will want to see evidence of sales history, sales projections, profit margins, and so on.
Generally, most lenders will ask for copies of the following documents:
Personal and Business Tax Returns
Based on how your business is structured and how long you’ve been in business, your lender will want to see your tax returns. Prepare copies of your returns for at least the last two years.
Bank Statements
Your lender will also want to see the assets in your bank and the flow of cash in and out of your accounts. Arm yourself with the most recent three months’ worth of bank statements.
Current Inventory List
The financing company may also want to see your inventory’s current listing, as well as where you’ve stored it. Include your inventory’s approximate liquidation value, if possible.
Details on Your Inventory Management System
Lenders also want to know how you track and manage your inventory. Prepare records that demonstrate your inventory turnover period, amount of inventory unsold, and the profits you’ve made on sold inventory.
There are certainly other relevant documents that vendors may ask to see, including your balance sheet, profit and loss statement, sales forecast, and so on. Whatever documents you feel are relevant, prepare them beforehand.
Cannabis Inventory Financing Can Be the Answer to Your Cash Flow Issues
Running out of stock can bring your cannabis business to a halt. Before that happens, consider applying for cannabis inventory financing to keep your customers well supplied and happy. It’s one of the most accessible financing solutions for businesses like yours.
Are you interested in quick financing for your cannabis business? Please, get in touch with us today.
