Sources of Finance: Sale and Leaseback, and Trade Credit Receivables

What are the fundamentals of sale and leaseback of non-current assets?

Sale and leaseback is an internal source of finance. This is where it sells an assets and then leases it back in the long term. This means that they can still use the assets, but they no longer own it.

What is sale and leaseback of non-current assets?

Assets can be sold but the assets can be lease back from the new owner, eg, a finance company. 

What factors would affect the choice of sale and leaseback of non-current assets?

One factor would be form of business and ownership and desire to retain control. If the owner wants to retain control of the business at all costs, then a sale of shares may be unwise. 

Who would provide this type of finance?

An entrepreneur sells an asset owned by the company like a machine or real estate to a leasing company. This can be a fixed asset or new investment. The enterprise will lease the asset back for a rental period and they will pay a fixed regular rent. 

What type of business is this suitable for?

Sale and leaseback finance is mostly used by builders or companies with high-cost fixed assets. They are common in the building and transportation industries and real estate.

What are the advantages of sale and leaseback of non-current assets?

Cash injection - companies can free up capital but also maintain the right to keep their property

Financial added value - if you sell your REAL estate to Regulated Real Estate Companies, you can then gain access to financial resources that you couldn't get in the ownership of your commercial space

Liquidity and creditworthiness - a sale and lease back agreement increases the ratio between fixed and current assets. This means that the business will be able to pay back short-term debts to lenders.

Improved balance structure - the balance of your own company is strengthened in your own capital. This is because a sale and lease agreement you can replace fixed assets with the cash process of the sale (current assets).

Grow the business - it helps you to focus on the core growth of the business. If you don't have capital to pay your employees and suppliers, the productivity and income will drop.

What are the disadvantages of sale and leaseback of non-current assets?

Future appreciation in value - a company could regret selling the property if it gains value in the future

Selling the company - if a business is sold in the future, the sold non-current asset won't factor into the valuation of the company when its sold. This could mean that the sale of the asset and the business individually will generate less cash than if they were sold together

Lease end - after the end of the lease period, there may not have been an agreement between the owner and the landlord for the owner to remain in the property. it could mean that the company have to move to a different location

Lose some control - new ownership means that the previous owner loses some control over how the property is used.

What are the fundamentals of trade credit receivables?

It is a short-term, external source of finance. 

What are trade credit receivables?

Trade credit receivables is the amount owed to a business by its customers, after the sale of goods or services on credit. Trade credit is like an interest-free loan.

What factors would affect the choice of this type of finance?

One factor affecting the choice for trade credit receivables would be the amount required. Small bank loans, overdrafts or reducing trade receivables' payment period could be used to raise small sums. Another factor is the level of existing borrowing. Lenders will become anxious about lending more finance if customers do not repay the money back in time. A high level of existing debt might mean that internal sources should be considered, such as the sale of assets. 

Who would provide this type of finance?

This type of finance would be provided by a company to their customers. The company may offer discounts to customers who pay early, making it a useful way to obtain a discount. 

What type of business is this suitable for?

This type of finance is suitable for unincorporated businesses that have unlimited liability, for example a sole trader partnership. This is because they have to reply on external sources of finance. This source of finance would be suitable for established businesses, that are not relying on payment from customers before purchasing new stock. It allows the cash flow to run smoothly.

What are the advantages of trade credit receivables?

It fuels and enables the growth of a business.

Increased revenue and higher margins - customers can obtain a higher volume of stock, without worrying about having to pay upfront. This liquidity allows businesses to benefit from higher margins as a result of the discounts they offer. 

Trade credit is very affordable for buyers and is basically free if paid on time, and a discount may be associated if payed early. 

It can be very useful for businesses that struggle to maintain a healthy cash flow. It helps allocate funds to expand business operations, instead of paying for goods and services in advance. Your business credit score can be improved by using trade credit options offered by a business ad paying on time. 

Reduces the costs of funding, reduces net debt, and increases cash flow.

What are the disadvantages of trade credit receivables?

Some businesses may find it hard to pay back on time because of the short-term period of trade credit. Extending trade credit puts the business at a greater risk for bad debts.

Unmanaged trade receivables will delay the business, and they may not have enough finance to purchase new stock. Big orders can be sent to customers, but if not paid on time, then they have no return to order more products. If a customer is unable to pay back on time, it could hurt their credit score or rating. It is easy for customers to overspend and not be able to return the money, therefore, many customers ending up in debt. 

The average late fee charged for delayed payments is 1.5% per month. Meaning that, if a customer is unable to pay on time, the credit gets very expensive. 

Transportation is a risk when goods are being delivered to customers. Currency is also a risk, because of the uncertainty of foreign exchange rate.