Small Business

Finance, Then Ready, Set, Sew


My daughter has taken two years to put a team of contractors together for her company making denim jeans. But she's almost afraid to launch, because we're concerned that her first orders could be quite large and will require a lot of manufacturing capital. How can she get production financing as a brand-new business?—C.W., Reno, Nev.

Your daughter's company must be adequately capitalized before she launches her product line. "As a manufacturing business, you're crazy to go ahead unless you have $50,000 to $100,000," says Paul Ratoff, an apparel industry consultant and president of Strategy Development Group in Placentia, Calif. If your daughter's company is adequately capitalized, there will be some creative financing alternatives she can exploit.

If her firm is well capitalized, your daughter should hire an accountant familiar with the apparel industry who can issue a financial statement reflecting that fact. "You can't establish credit unless you have a decent financial statement. It's best to get one early, because when you first start out, your business is going to be at its best financially. After you've started selling, you're going to have an initial period of loss that won't look as good," Ratoff says.

Special Financing Assuming she has borrowed or otherwise raised the money she needs to launch, and then receives some large orders right away, she might consider going to a "factor" or a "purchase-order financer." These are specialized finance firms that often work with the apparel industry.

"Factors provide upfront capital against receivables (actual orders), and they will work with clients on several different bases depending on the situation," says Jean Gipe, professor of apparel merchandising and management at Cal Poly University, Pomona.

Factors and purchase-order financers are expensive, but may be a good option if your daughter has built a reasonable profit margin into her product line, Ratoff says. Often, apparel firms strike a tri-party agreement with both purchase-order financers and factors.

Good Cash Flow It works like this: A purchase-order financer advances money to the manufacturer to pay for fabric and labor, based on product orders that have been received. Once the product is shipped and the invoice has been sent, a factor purchases the company's accounts receivable, pays off the purchase-order financer and the manufacturer, and then is responsible for collecting the money due from buyers such as department stores.

"It's ideal for the manufacturer in terms of cash flow, because they get cash up front to pay for production and then when they ship the product and sell their receivables, their debt to the purchase-order financer is paid off and they get the remaining cash immediately," Ratoff says. Of course, the downside is that the manufacturer will be paying commissions to the lenders on both ends of the deal.

The other positive aspect to working with a factor is that purchase-order financers often feel more secure when they are being paid by a third party. "A third party makes the [purchase-order] lender happy, because if the manufacturer is responsible for paying them back and they're in financial trouble, that loan might not get repaid. If the money's coming from factors, they tend to be large, established companies that will guarantee payment no matter how the manufacturer's finances are doing," Ratoff explains.

Credibility Factor Ratoff recommends that your daughter make arrangements now with both a purchase-order financer and a reputable factor with an established track record. That way, if she is fortunate enough to be hit early with what could be overwhelming orders, she will be able to fulfill them and grow her company quickly.

Having a factor on board may also help her credibility if she is looking for credit from her vendors. Apparel industry finance companies typically advertise in apparel industry newspapers and magazines, Gipe says.

Ratoff does not suggest that your daughter's firm make use of the specialized financing immediately, however. "For small, run-of-the-mill orders, she should put her own working capital into the business, whether that's through taking a second loan on her house—or yours—getting an SBA loan or arranging for credit from a fabric or trim supplier," he says (see BusinessWeek.com, 3/20/06, "Give Yourself Some Credit").

Karen E. Klein is a Los Angeles-based writer who covers entrepreneurship and small-business issues.

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