Ways to Raise Working Capital

Working capital is the lifeblood that runs through your startup. It covers everything from paying suppliers to covering short-term debt and managing cash flow. Without it, even the most promising startups falter.

India offers many business funding opportunities at every stage, providing multiple avenues for raising working capital from government-backed schemes to private investors to new-age fintech lenders like Recur Club. For instance, the Startup India Seed Fund Scheme provides early-stage businesses with up to ₹50 lakhs to help them get started. Likewise, the MSME Loan Scheme offers loans of up to ₹1 crore, allowing small businesses to grow without sacrificing equity.

In addition to these schemes, the Small Industries Development Bank of India (SIDBI) has also played a pivotal role in supporting Indian startups. As of 31st January 2024, SIDBI has committed INR 10,229 crores to 129 Alternative Investment Funds (AIFs), and an additional INR 4,552 crores has been distributed to 92 AIFs. Altogether, INR 17,452 crores have been injected to boost 939 startups, significantly enhancing access to working capital and funding resources for effective scaling.

It’s important to note that around 10% of startups in India fail within their first year, with insufficient funding being one of the key reasons. 

Securing sufficient working capital is not merely an advantage; it is essential for sustaining operations and ensuring long-term viability in the competitive startup landscape.

This article will delve into various ways to raise working capital, ensuring that your business has the financial foundation it needs to succeed. Whether you’re in the early stages or looking to scale, there’s a solution that can fit your specific needs. 

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What is Working Capital?

Working capital is essential for any business, covering day-to-day expenses and ensuring smooth operations. In simple terms, it’s the difference between what a company owns (cash, inventory, and accounts receivable) and what it owes in the short term (debts, invoices, and accounts payable). 

Working capital = Current assets - current liabilities 

If a business runs out of working capital, even basic activities like paying employees or purchasing raw materials can stop. Managing working capital can be a critical balancing act for startups, especially in India’s booming ecosystem. The challenge isn’t just raising funds but ensuring you have enough liquidity to keep the business running efficiently. 

The Challenge of Raising Capital

Securing sufficient working capital is often one of the toughest hurdles for startups. As a founder, you might be looking to grow, but finding funding without diluting equity is difficult for early-stage startups. Traditional debt financing, such as bank loans or credit lines, seems like an obvious solution. However, these options often come with their own set of challenges that can slow down your progress.

• Limited Working Capital: Banks must ensure that book-debt finance doesn't exceed 75% of the sanctioned limits, which is usually not sufficient for a growing business. You generally have to finance the remaining 25% from your cash flows which is not possible for early stage companies. 
• Rigid Repayment Terms: Most bank loans require fixed monthly repayments, regardless of your business's performance. This lack of flexibility can stifle growth by diverting cash away from critical investments, such as marketing or product development when you need it most.
• Slow Approval Processes: Time is of the essence for startups, but bank loans often involve lengthy approval processes, which can take months. If your business needs quick access to capital to seize an opportunity or solve an urgent problem, waiting for a traditional loan might not be feasible.

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Ways to Raise Working Capital

1. Self-Financing: The Bootstrap Approach

Bootstrapping involves growing a business using personal funds or revenue from the company rather than relying on external investors or loans. This approach allows founders to manage their working capital by reinvesting profits directly into day-to-day operations, ensuring they can cover essential expenses like payroll, inventory, and utilities. 

In India’s startup ecosystem, bootstrapping is a common strategy for founders who prefer maintaining complete control over their business while carefully managing liquidity to sustain operations.

Example of Bootstrapping: Zerodha

Zerodha, one of India's largest stock brokerage firms, is a prime example of successful bootstrapping. Founder Nithin Kamath used personal savings to launch the business, offering low-cost brokerage services to the mass market. By reinvesting profits into operations, Zerodha maintained healthy working capital, enabling steady growth without relying on debt or external funding. 

Pros of Bootstrapping

• Retain Full Ownership: You keep all the equity. No venture capitalists or angel investors own a part of your business and you maintain 100% ownership.
• Full Control: You make all the business decisions. From pricing strategies to product launches, everything is under your control.
• Grow at Your Own Pace: Bootstrapping allows for gradual, sustainable growth. You can focus on long-term success rather than being pressured to scale overnight.

Cons of Bootstrapping

• Slower Growth: Without external funding, growth may be slower, especially in industries like manufacturing or hardware, which require substantial upfront investment. 
• High Personal Risk: Since you're investing your own savings, any financial loss directly affects your finances. If the business doesn't perform as expected, your financial security could be at risk.
• Limited Resources: Relying on personal funds can restrict your ability to hire, expand, or invest in new technologies. This can limit your competitiveness in fast-paced markets.

Bootstrapping can be a powerful way to retain control and grow your business steadily. However, it requires careful consideration of the trade-offs, especially when it comes to the speed of growth and the financial risk involved.

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2. Invoice Financing

For many startups and SMEs, waiting on late payments from large clients can significantly strain working capital, making it challenging to cover immediate expenses. Invoice financing provides a solution by unlocking cash tied up in unpaid invoices, allowing businesses to access much-needed funds. This infusion of cash helps maintain working capital, ensuring that operations continue smoothly, inventory can be purchased, and growth is supported, all without waiting for customers to settle their accounts.

How Invoice Financing Works?

With invoice financing, a business borrows money against its accounts receivable (i.e., unpaid invoices). The lender typically advances 70% to 85% of the invoice value upfront, giving the company immediate cash. When the customer pays the invoice, the remaining balance is released to the business, minus a lender fee, which typically ranges from 1% to 5%, depending on factors such as the customer's creditworthiness and the invoice volume.

Two Types of Invoice Financing

1. Invoice Discounting: In this method, the company maintains control of its sales ledger and is responsible for collecting payments from customers. The lender advances a portion of the invoice's value, and the company repays the lender once the customer settles the invoice. This method keeps customer relationships entirely within the business.

2. Invoice Factoring: Here, the lender takes over the sales ledger and directly collects payments from customers. The company still receives an advance on the unpaid invoices, but it hands over the responsibility of managing customer payments to the lender. This method can ease the burden of debt collection but may raise concerns about how clients perceive third-party involvement.

In India, the invoice factoring market is projected to grow significantly, reaching $48.97 billion by 2032, with a CAGR of 11.6% from 2024 to 2032. This growth underscores the increasing demand for flexible financing solutions among businesses facing delayed payments.

Why Choose Invoice Financing?

Invoice financing offers several advantages, especially for businesses dealing with long payment cycles:

• Immediate Access to Cash: Rather than waiting for customers to pay their invoices, businesses can unlock cash tied up in receivables, providing essential working capital.
• No Need for Traditional Loans: Since the financing is based on receivables, businesses don’t need to take out conventional loans, which are often harder to secure for startups and SMEs.
• Flexibility: Companies can choose to use invoice financing only when necessary, making it a flexible solution for managing cash flow.

Costs and Considerations

While invoice financing can help ease cash flow issues, it’s essential to weigh the costs. Lender fees usually range from 1% to 5% of the invoice value, depending on factors like customer credit history, invoice size, and payment terms. Additionally, the method of financing chosen will impact operations:

Invoice Discounting: The business remains responsible for chasing customer payments, which may strain resources.

Invoice Factoring: The lender handles debt collection, which can affect customer relationships as clients will be aware of third-party involvement.

Before opting for invoice financing, businesses should carefully assess both the costs and the potential impact on customer interactions to ensure it’s a profitable and strategic choice for their working capital needs.

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3. Revenue-Based Financing (RBF): Grow Without Dilution

Due to their revenue patterns, startups in sectors like SaaS and direct-to-consumer (D2C) brands face a significant challenge in managing consistent working capital. D2C brands, in particular, often face fluctuating income driven by seasonal demand, consumer trends, and promotional campaigns. 

This variability makes it crucial for D2C brands to have a flexible working capital solution that can adapt to changes in revenue.

Recur Club: Tailored Capital Solutions for Startups

Recur Club is India’s leading debt marketplace, connecting businesses to funding options tailored to their specific needs through a dedicated capital expert. With access to over 100+ marquee lenders, including Tata Capital and HSBC, Recur Club offers solutions to fit various growth requirements.

Recur Scale is used by startup founders seeking large-scale funding offering up to ₹100 Crores to support expansion, operational improvements, or new investments. It helps match startups with the most suitable lenders, making it ideal for founders looking to raise significant growth capital efficiently.

Recur Swift is perfect for startups that need working capital to bridge capital needs. Founders use Recur Swift to obtain fast, flexible loans, with approvals in as little as 24 hours and without the need for collateral, ensuring quick liquidity when it’s needed most.

With Recur Club, you can choose the financing solution that best suits your business needs, ensuring efficient capital to scale at every growth stage. Discover how Recur Club can support your journey.

How does RBF support working capital for D2C brands?

D2C brands rely heavily on working capital to keep up with operational demands—whether it's producing inventory, funding marketing initiatives, or ensuring timely order fulfillment. Maintaining sufficient liquidity is critical for managing these activities smoothly.

RBF offers several benefits to D2C brands seeking to bolster their working capital:

Flexibility in Repayment: RBF repayments are tied to revenue, which means D2C brands pay less during slow periods, helping retain working capital for essential operations during low-income months.

Retain Ownership: Unlike equity financing, RBF allows founders to access growth capital without giving up ownership, preserving complete control over business decisions.

Optimized Cash Flow Management: RBF helps D2C brands manage cash flow by aligning repayments with business performance. This allows for inventory restocking, marketing, and expansion without the burden of rigid payment obligations.

Success Story: Wellversed

The Wellversed case study on Recur Club's website highlights that Wellversed initially faced challenges due to restrictive debt obligations and the use of equity for daily operations. By partnering with Recur Club, Wellversed raised debt six times, totalling ₹6.5 crores, enabling them to systematically utilize funds for expansion. This approach allowed Wellversed to manage working capital effectively, focus on growth, and eventually double their revenue, enhancing operational efficiency and profitability. 

Who Should Consider Revenue-Based Financing (RBF)?

Revenue-based financing is particularly appealing for businesses that can accurately assess and predict their revenue flow. Even if a startup isn’t fully profitable yet, having a consistent income stream makes RBF a viable option. 

However, it’s important to weigh the costs:

Investors expect higher returns:  RBF typically requires founders to pay back 1.5 to 2 times the original investment. While this can be seen as costly, many founders find it a worthwhile trade-off for retaining full ownership and avoiding rigid loan repayments.

As Indian startups continue to grow amidst intense competition for traditional funding, RBF stands out as an effective way to secure capital while maintaining control over the company. Its flexible repayment model provides a viable alternative for founders prioritizing autonomy and cash flow management. 

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4. Merchant Cash Advance (MCA)

Startups often juggle unpredictable cash flows due to market fluctuations, seasonal demand, or growth spurts. Merchant Cash Advance (MCA) financing offers a flexible way to access capital quickly without the rigid structure of traditional loans. Instead of paying a fixed interest rate, startups repay the advance through a percentage of their daily credit or debit card sales. This makes MCAs ideal for businesses with fluctuating revenue, providing much-needed flexibility in uncertain times.

Comparison with Traditional Financing

Here’s a comparison table using the provided reference for Merchant Cash Advances vs. Traditional Financing:

The global MCA market was valued at $17.9 billion in 2023 and is projected to reach $32.7 billion at a compound annual growth rate (CAGR) of 7.2% until 2032. This table outlines how a Merchant Cash Advance offers faster access to funds and flexible repayment, while traditional financing is usually more affordable with fixed terms and payments.

How Does an MCA Work?

• Lump-Sum Payment: Businesses receive an upfront cash advance based on projected future sales.
• Repayment Flexibility: Payments are made daily as a percentage of credit/debit card sales. This means repayments increase during periods of high sales and decrease during slower months.
• No Fixed Term: Unlike traditional loans, MCAs don’t have fixed repayment schedules. Repayments continue until the full amount is repaid.

Advantages of MCA for Startups

1. Quick Access to Funds: Startups can access funds much faster than with traditional financing. The approval process is faster, often with minimal paperwork.
2. No Collateral Required: Startups don’t need to pledge assets as collateral, making it an attractive option for businesses that lack physical assets but have strong sales potential.
3. Easier Eligibility: Traditional loans often require high credit scores and solid financial histories. In contrast, MCAs are more lenient and focus on your business’s projected sales, not its past performance.
4. Repayment Matches Revenue: The repayment adjusts with your sales. So, during slower months, your payments are lower. This prevents the cash flow strain that comes with fixed loan repayments.

Considerations for Startups Using MCAs

While MCAs provide quick access to capital, they come with a higher cost. Here’s what startup founders should consider:

• Higher Fees: MCA providers typically charge more than traditional lenders, often expressed as a factor rate instead of an interest rate. This can result in a significantly higher total repayment amount.
• Cash Flow Management: The flexibility of repayments based on sales can be helpful, but startups should ensure they can cover their operating expenses while repaying the advance. Failing to manage cash flow during slow sales periods could lead to financial stress.
• Profit Margins: Startups often operate on tight margins. Since MCAs are more expensive, it’s crucial to evaluate whether the extra cost is justified for the immediate cash flow relief they provide.

Suitability for Small and Medium-Sized Enterprises (SMEs)

Merchant Cash Advances (MCAs) can be a good fit for SMEs and startups, especially those dealing with inconsistent cash flows. These businesses often face unpredictable revenue due to factors like seasonal demand, market fluctuations, or rapid growth phases. MCAs offer a flexible financing solution by providing an advance based on future credit and debit card sales, making them a viable option for companies with varying monthly incomes.

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5. Trade Credit: Extending Payment Terms with Suppliers

Trade credit is a popular financing method, especially for start-ups in India, where traditional funding can be limited. It allows businesses to obtain goods or services without immediate payment, agreeing instead on deferred terms, usually 30, 60, or 90 days.

This flexibility helps startups manage cash flow more effectively by delaying payments, freeing up capital for other operational needs. However, careful management is crucial to avoid falling into payment delays that could strain relationships with suppliers. 

How does Trade Credit Support Cash Flow?

1. Delayed Payments Free Up Cash  

For startups, particularly in industries like retail, manufacturing, and distribution, trade credit can be a critical tool for maintaining liquidity. When a company delays payments to its suppliers, it can channel its available cash into other vital areas, such as marketing, employee salaries, or scaling operations.

2. Interest-Free Financing  

Trade credit essentially functions as an interest-free loan provided by the supplier. For startups in India, where access to traditional bank loans can be difficult, this form of financing allows businesses to hold on to their cash longer while using goods to generate sales. The cash received from selling these products or services can then be used to pay off the supplier’s invoice within the agreed credit terms.

3. Extended Credit Terms 

Startups may negotiate longer payment terms, typically ranging from 30 to 90 days, depending on their relationship with suppliers. This extended period provides breathing room, allowing startups to generate revenue from the goods or services before the payment is due.

Example:

Consider a retail business that purchases inventory worth ₹10 lakhs on 60-day trade credit. Instead of paying the supplier upfront, the business can sell the inventory, generate revenue, and pay the supplier at the end of the credit period. If the company sells 70% of its inventory within 30 days, it can use that cash to reinvest or settle part of the payment, allowing it to stay afloat and grow without the immediate burden of upfront costs.

Who Can Benefit from Trade Credit?

Trade credit is particularly beneficial for startups that have strong relationships with their suppliers. In retail and manufacturing, where regular procurement of raw materials or inventory is essential, trade credit gives businesses time to turn stock into sales before settling their invoices. This arrangement works well for businesses with consistent demand and reliable cash flow but can also be leveraged by growing startups to smooth out cash flow volatility.

Key beneficiaries include:

• Retail Startups: Since retail often requires significant upfront investments in inventory, trade credit allows retailers to stock their shelves without paying upfront. This frees them to focus on sales, promotions, and customer acquisition.
• Manufacturers: Manufacturers often purchase raw materials and need time to produce and sell finished goods. Trade credit allows them to process, produce, and distribute products without dipping into cash reserves.
• E-commerce Startups: With the surge in online shopping, Indian e-commerce companies also benefit significantly from trade credit. They often need to hold substantial inventory to meet customer demand, and the deferred payment terms allow them to maintain this stock without straining cash flow.

Using Trade Credit to Raise Working Capital

Trade credit is a widely used and practical way for startups to increase their working capital, especially in India, where cash flow challenges are shared. By deferring payments to suppliers, startups can effectively free up cash that would otherwise be tied up in inventory or raw materials. This additional liquidity can then be used to invest in other critical areas, such as:

• Marketing initiatives to drive growth.
• Hiring new talent to scale operations.
• Technology upgrades to improve efficiency.

Risks of Trade Credit

• Late Payments and Penalties: Missing payment deadlines can lead to penalties, late fees, or reduced credit from suppliers. This is particularly harmful for startups relying on trade credit to manage day-to-day operations.
• Strained Supplier Relationships: Consistently delayed payments can damage relationships with suppliers, who may prioritize more reliable clients. In competitive industries, losing a trusted supplier can disrupt the supply chain, especially in India, where trust is often foundational.
• Impact on Credit Rating: Late payments can negatively affect the company’s credit score, making future trade credit or other financing harder to obtain, especially given the strict lending requirements for Indian startups.
• Supplier Liquidity Risk: Extending credit can strain suppliers' cash flow, particularly for smaller businesses. If buyers delay payments, suppliers may face financial difficulties, even when early payment discounts (e.g., 2/10 net 30) are offered to improve cash flow.

These risks highlight the importance of effective cash flow management and maintaining strong supplier relationships to mitigate the downsides of trade credit. 

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6. Crowdfunding

Crowdfunding is a modern way for startups and small businesses to raise capital. Instead of relying on traditional financial institutions, entrepreneurs can now reach out to a large pool of potential backers, each contributing a small amount of money through online platforms. This collective effort helps businesses gather the funds to kickstart or expand their ventures. 

Crowdfunding in India, governed by regulations from SEBI and RBI, has become a vital source of funding for innovative startups, artists, and even social causes.

As of 2024, the crowdfunding market in India is projected to reach USD 12 million, reflecting the growing interest in this model as a capital-raising method.

Types of Crowdfunding

Crowdfunding comes in several forms, each catering to different needs:

Reward-based crowdfunding: Startups offer non-financial rewards in exchange for contributions. For example, a technology startup might provide early access to a product or exclusive merchandise. This model is famous for creative projects and tech startups.

Debt-based crowdfunding: Also known as peer-to-peer (P2P) lending, this involves raising funds through loans that are paid back with interest. Investors act like lenders, and the business repays the principal with a pre-agreed interest.

Donation-based crowdfunding: People contribute money without expecting anything in return, typically for charitable or personal causes.

Equity-based crowdfunding: In this model, backers receive equity in the business in exchange for their investment. However, this model is currently illegal in India.

Benefits of Crowdfunding

Crowdfunding offers multiple advantages:

1.  Access to Capital: Startups can raise funds without giving up equity or dealing with bank loans. This is especially useful for early-stage businesses in India, where raising traditional capital can be difficult.

2. Marketing Exposure: Campaigns often go viral, offering visibility that doubles as a marketing tool. 

3. Validation: Crowdfunding helps validate your business idea. If people are willing to invest, it’s a strong signal that there’s market interest in your product.

Challenges of Crowdfunding

While crowdfunding offers excellent potential, it also comes with challenges:

Time-Intensive Campaigns: Running a successful campaign requires continuous promotion, updating backers, and managing expectations. It can be quite labor-intensive.

Uncertainty: Achieving your funding goal isn't guaranteed, and failing to meet it could lead to wasted effort and potential reputation damage. 

For more insights on how to raise funds for your startup, check out Recur Club’s guide on Crowdfunding vs. Loans for Startups. Recur Club also offers alternative funding solutions, making it a valuable partner in your capital-raising journey.

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