How NOT To Get Screwed With DTC Debt transcript

debt financing cage match it's going to be a battle it's going to be bloody I am on with two people who hate one another and who just violently disagree with each other on these things I'm actually saying that because I'm a marketer as much as I am a podcaster and I want you to listen to an an episode that I think is going to be very very helpful of this show which is a conversation with Bill dandro and Drew Fallon about uh what is very called a merchant cash advance and and a revenues based financing loans like Shopify Capital WF those sorts of things you've seen them floated around if you run a store yourself you may have been offered this kind of debt in your business and you should understand it before you decide what to do with it that's really the point you should understand the debt before you decide to take it or say no to it how it might fit or not fit into your business and Drew and Bill have somewhat different perspectives on this issue and are going to talk about it they are the two most qualified people I know of in our space to discuss this issue um for a number of reasons I'm going to get to in a second let me jump in and introduce Drew Bill a little bit more so that you know why you should listen to them Bill dallesandro how's it going it's good going great I'm psyched to be back on the AJF podcast I know I think you might be my first three-time guest ever besides Taylor holiday so uh and and I'll say you're you have uh you have a couple of my most listened to episodes ever I will definitely link them in the show notes well I was number one for quite some time and I was bested by peran fig and someone else I think so I'm back to try to reclaim the crown once once I had uh Isaac mados on and the the headline was $10 million with no ad spend that that episode beat a lot of people really fast because it's like wait a minute I could do 10 Mill in Revenue with no asend and the answer is maybe you can but probably you're not as good at it as Isaac and you can't if you're a super freak like Isaac you can't yeah yeah um uh so yeah my episodes with Bill uh are linked in the show notes you should go listen to those we actually some of if you like this conversation um there's some stuff we've talked about on both your episodes you're like my go through Finance uh guy along with Drew actually the two of you have been like the finance people I've talked to on this podcast the most and so uh Bill why should people listen to you about Finance uh aside from the fact that you're the CEO of natural dog Co which is a midate figures e-commerce brand am I allowed to say that mid eight figures is that okay oh you can say that yes that's we can get that we can get that bleeped if if that's like too much information but and and now a client of mine by the way which is fun so we're working together more directly so um so in fact in fact we could have done this next week we'll be hanging out in person yeah um but uh but yeah why should people listen to you about uh things related to finance tell people a little bit about your Finance bonafides yeah so my background you know I majored in finance in school Finance computer science I worked for several years in Investment Banking uh helping businesses Finance themselves sell themselves raise debt raise Equity uh and then I worked on the private Equity side where we did a roll up of of businesses in the data center space I then started my own e-commerce Business formerly known as elements Brands we did eight Acquisitions I borrowed dozens of millions of dollars I actually should add it up um through various different structures SBA uh I I suppose I should admit to even one time taking an MC um that's good to know that's good to know yeah um so so no judgment on people but uh uh SBA MCA you know really structured kind of cash flow style debt with with professional debt funds um so have a lot of experience negotiating these things you know Excel modeling these things Etc in my career bill has been in drastically more debt in his life than you have been in probably if you were listening to that is probably true yes he's owed many people many many more dollars than you certainly than I have owned people awesome thanks Bill uh Drew Fallon another guest of mine another actually very popular episode of my of my show so go listen to that as well also linked in the show notes of course uh Drew Fallon is the CEO of Iris Financial uh Drew tell people who you are why people should listen to you maybe even why people should listen to you over bill um you know I think people should definitely listen to to Bill Bill Bill's got a ton of experience and I have a lot of respect for him um we we will I think disagree a little on this topic but um I've been in specifically e-commerce for about 10 years now uh I also studied Finance in schoolers like bill um I graduated uh and did uh banking for two years I was on the research side however so we were basically the support function um on the IPOs for e-commerce and Marketplace businesses um so I did that for two years uh while also being the founding CFO of a brand that was called mad rabbit or is called mad rabbit I should say um where I was the the founding CFO so I ran the the entire back office of that business um from zero to the the most recent valuation was 60 million we were we were a series aack company so uh in that in that se um I did a lot of debt and Equity so the the company raised well under the eight figures of of equity and debt uh specifically a lot of these MCAS so w flyer was a was was a tight partner of ours um I've also got experience um we did we did like an a once at mad rabbit 2 and obviously shopped around a lot of deals and looked at and all that other stuff and so um I've also um as as a part of Iris we now have close to 100 brands on our platform so um after Matt rabit i' I've recently moved into uh starting a software company for financial modeling for you know this exact reason uh which is I think people need to understand this stuff a little bit better um and so as part of that um I've been you know uh instrumental in in a couple different fundraisers on both the debt and Equity side for some of our clients just you know trying to be helpful um and that's you know to the tune of of probably 40 or 50 million mostly debt at this point um so I've seen a lot of different business models um you know in my time with Iris like again we have up to 100 of clients at this point and so um every Brand's a little bit different and I think that's like kind of one of the key components that that we'll dive into but um yeah that's that's me and a nutshell awesome um okay yeah so so you guys have both been in a lot of debt which is great um uh uh Drew uh tell people um tell people a little bit as we get into this topic what an uh MCA or again RBF or however you want to frame it is so they understand what the mechanism of dead is um and and maybe name some of the key players in the space I mentioned a couple of them in the intro but uh but just so that people understand what kind of loan this is that we're talking about as clearly as possible yeah so the the merchant cash advance um it's technically not actually debt or or a loan it's actually like a receivable sale um so similar to like how you know if you have accounts receivable at like Walmart like Walmart owes you money you can basically get an advance on that receivable by paying an interest rate um and so the MCA is I think fairly new honestly with regards to basically how how accessible it's been since like 2019 2018 maybe um and that's like when like I think like clear and Bill I'll be curious your perspective but clearco was kind of like the first ones I thought that really entered the space like 2015 even um and then like wayer popped up you have uncapped um some of these things basically turned into like these bmls but uh more than anything it's basically an advance on your future Revenue um and it's your short-term Revenue right so it's not like we're advancing you know years of Revenue it's generally you know six Monon paybacks kind of a thing um and so it's it's it can only really be mostly uh you know compared to like an open market receivable sale and it's actually one of the reasons that I um I do like them sometimes um and they're not regulated like like like traditional debt is and that's like y wer and and uncap kind of get away with it if you will um they're not actually unregulated the same way that banks are awesome um so and then the mechanism here right is that like you you uh take the we'll just call it a loan even if it's not technically a loan we we'll call it's the best word for it it's the best word for it yeah right we'll take the loan um and then you pay back as a percentage of your Revenue each day is remitted straight out of your Shopify account is that is that right um functionally or Amazon or your Revenue stream you know wherever right and it's not always daily though not always could be daily could be weekly could be I think I've seen some monthly ones as well do you know now so I haven't so I mean these were these loans were offered to me at some point when I was running e-commerce companies um and they uh when they did when they were uh at the time it was all presented as like the default was daily right uh do you know if they are still defaulted to daily like is is that sort of the first offer you're going to get in most cases from these lenders or has that changed at all because it's been a few years since I've since I've had that Drew I I'll stick with you because maybe you're seeing them more across portfolio um they're more often daily recently um but back you know when money was a little bit cheaper it actually was a lot more lenient so I would say it's actually kind of gone in like the reverse Direction where like it used to be like not daily but it's it's much more commonly daily now okay all right so okay Bill you have put out a bunch of of content about this in a couple different forums um feel free to clarify anything you want to say about about that description of what this this kind these loans are um but if I could summarize your frustration with these and the reason why you have referred to your uh your uh comments about this as interventions for um for people is because in your view the and and by the way just to give people a sense of where we're going here I want to start sort of theoretical about the math uh as much as possible because I think it's very important for people to understand the math and then and then we'll move towards more practical like who should and shouldn't take these loans and maybe you know Bill you even said you guys took one at one point right so like maybe there was even some point with your sophistication that you decided there was actually a place for this in your Deb stack so um so we'll go towards more practical things at some point and what and some of the implications for e-commerce businesses and goals around your e-commerce businesses in a little bit but I want to start on the math because Bill if I could summarize your frustration with these um it seems to me um and by the way I'm working off a couple of long Twitter threads this will also be linked you guys have both put some ACT great content about this and and really helpful thinking so go read those Twitter threads there's three of them they're a little bit longer but they're really worth your time um and if I could summarize your comments B billets that the math the the APR is just like uh uh obscenely High it is the APR is quite high and it is they are marketed in a misleading fashion so as to hide the true cost of capital that is functionally my problem that so let's talk about both of those you can talk about them together or separately but you're right that's the other point is that not only is the APR really high but they are purposefully in your view obfuscating how high that APR is and that makes it like a bad deal for a lot of people so so talk through that so Le let's take a very basic kind of example MCA like is this is how you'll see it you'll see it you know borrow $100,000 and then pay back 10% of sales until you've paid back $110,000 right and they will position it as there's a 10% fee on the on the loan on the mcaa you will notice that they are very very careful to call it a fee not an interest rate um because it is in fact not an interest rate so you might think okay I've borrowed aund $100,000 I've paid back $110,000 I've paid back X perent of sales over six months so if you are financially unsophisticated and I don't mean that pejoratively I just mean not a professional you might say okay well I had $100,000 for 6 months I paid $10,000 for the privilege uh did I pay a 10% interest rate no you did not um because it's only six-month loan okay well did I pay a 20% interest rate uh you know maybe you double it no you did not um because actually what you have to understand is you paid back let's take the daily loan you know because Drew indicates these are most common now every day if you had a six-month MCA loan outstanding you functionally took 100 180 mini loans of varying lengths you and let's assume a linear payback also you paid back one 18th of the money on day one one 180th of the money on day two one 180th of the money on day three such that you pay back all of the money by day 180 I hope you're with me so far however what they did to figure out how much you pay back is they functionally took $110,000 and divided it by 180 right to smooth your payback so you have paid the 10% fee on each of those days of payback regardless of how long you had the loan so you functionally that first day you borrowed one 180th of the money and still paid 10% to have the money for one day then the next day you paid 10% to have the money for two days so the effective APR on these mini loans is thousands of percent right for the very short-term ones and it approaches the very best APR is on the 180th day where you've paid a 10% fee to have the money for half a year and you've paid an effective 20% APR so the true APR of this loan is the average of On The Low End 20% on the high end it can be like 4,000% um the true APR of these loans typically averages out kind of between 40 and 70% APR and that is the yield that the MCA lenders are targeting and that is why to Drew's point when he said as money has gotten more expensive you're seeing more and more daily MCA offers instead of weekly or monthly because the faster you pay it back the higher it drives the cost of capital because you had the money for less time and that is fundamentally my problem is that these loans are marketed as only a 10% fee but in fact it is it is more expensive than carrying a balance on your credit card so many us-based e-commerce businesses are still sleeping on the opportunity that is available to adding Talent from the Philippines to your business and the reason they're sleeping on it is because they don't understand that hiring in the Philippines is much more and there's a much better way to do it than just $5 an hour virtual assistance you should actually be looking for serious Talent across the entire business by working with my friends at more Staffing uh Mo the majority of my team at this point is from more Staffing in the Philippines and I have loved working with them they have been incredible ads to my team I have zero $5 an hour virtual assistance I have uh people at higher levels than that because here's the way this works right I can attract the best quality Talent by paying above Market rates in the Philippines and it is still lower than I would pay in the US and so it is a win-win your dollar just goes a lot farther in the Philippines than it does here and and all of the concerns that you might have about this sort of thing are not really big problems I've uh I've never fired a person from the Philippines because my talent has been good across the board more staffing has led me to that and has done a great job there everybody on my team speaks English at a level that is proficient and good and so there's no issues there the time zone thing has really not been a problem in fact if anything it probably helps our workflow because people can work better and whenever we need to have meetings we just align time zones as best as possible uh the the simple win-win here is that you can keep your Opex low while attracting the best quality talent and the Philippines is a country of like 180 million people there are people with incredibly good deep e-commerce resumes across every part of the business Operations Logistics supply chain marketing all of it it is all there one of my designers used to be a designer at like a major magazine in the Philippines uh and is now working with me and she is awesome and I love working with her you can attract those same kind of people uh by offering an above market rate in the Philippines and again it's lower than what you're going to pay for the same level of talent in the US it is a winwin go get access to that Talent with my friends at more Staffing who will help you uh identify recruit train coach onboard all those things with those with those people in the Philippines those employees on your team and they will even give you a one-year guarantee so that if you hire an employee there it doesn't work out look hiring is an imprecise process it occasionally happens uh if you hire somebody it doesn't work out they will replace that help you replace that person on your team at no additional recruiting fee so it'll be free for you go to more staffing.com more staffing.com to get access to the best talent for your e-commerce business in the Philippines today let's add two other details in there and then Drew I'll let you kind of respond to that one of them is uh just just for clarity's sake these loans are not personally guaranteed usually right correct so which is important which is really important right so that look like a distinction between um SBA is personally guaranteed right again I don't want to get too far down the compare to other options road yet but it just that that distinction is significant so if your business goes to zero you don't have to pay back the loan right correct yes they are not coming for your for your brokerage account if you default well they can't come for your house even on SBA loan because in Most states Prim primary residence is protected but they're not coming for your personal assets if you default on uh an MCA that being said Drew I wonder if you've seen this too I'm seeing more and more PG language sneaking into the MCA docs in the fine print so Shopify actually um they they they they're they have the option to become secured like deep in the paperwork um with their like cash advance uh it's not personally guaranteed but like they do have like a security option A lot of the times which is um that that part is like shady like my my and we'll talk more about this but um my my proclivity to doing these things is that it's not secured or guaranteed that like that's a disqualifier for me if if Shopify the moment moves the moment it moves to having a personal guarantee Drew's out on this loan basically not even a personal guarantee but any sort of security a lot of times yeah okay um great so so there's that there was something else I was going to um oh the other thing is and and Bill I think correct me if I'm wrong about this but one of the one of the uh other little details that happens there is because it's based on Revenue it actually becomes the case that the the better your business performs like the more Revenue you drive over the course of the loan the more your paying back faster right isn't that isn't that right and therefore your interest rate even gets worse yeah some loans are structured that way that if your business accelerates you pay it back faster uh and this drives the effective cost of capital up if it's a perer percentage of Revenue right like that sometimes they are structured as like a 180 day you know divide by 180 daily remittance no matter what your sales are but yes it's tied to revenue you have more success it actually accelerates the cost of capital you have less success it works the other way right and you get longer to pay it back and it actually Blends down the cost of capital but of course your business is hurting in that case yeah right okay all right that's really good okay now I'm going to throw a small bomb into this conversation because Drew threw it into in his Twitter thread all right so um so Drew your your thread basically uh that partly that a part of what sparked Bill reposting his stuff which was which was great and then this conversation was you basically saying like these loans are actually in your words modern Miracles they're they're incredible Capital access options for people who basically if I understand your position correctly should not have access to Capital in in traditional settings right or like at least if they should it's it's really hard to figure out how those would be underwritten in any way so um so what you said here and I'm GNA quote you now is you must not attempt to calculate some ludicrous APR with stupid math because your butt hurt that's a that's the Drew felon quote so here's my question for you is Bill calculated a ludicrous APR with stupid math because he's butt hurt so technically not really I think the the thousands percentage of APR is like an extreme example and in practice that very rarely actually happens uh I think Eugenio labat has has shared a really great template that folks can use where he's actually doing it day by day right in the effective interest rate like you have to do something really crazy to get it to a thousand um the 40 to 70% range I think is more reasonable um and here's my here's my sort of uh you know my my view on on why that's and I and I don't mean to say stupid bill but like I'm being fous a lot um that's like even if you are paying 70% APR on on these loans like you end up paying like 9,000 or whatever you know on your like T your tiny little loan that just like enabled you to actually survive and continue to scale so like a lot of the times like we're talking about like even the the example that bill gave was 100 Grand like you could pay a a th% it's still like not that much money it's like kind of the point so like even from like a debt servicing perspective right if you can grow your business in the meantime to a decent scale using those instruments you can very easily cover that cost of capital because even though the percentage is extremely high the actual dollars is menial and I think like that's like a very critical thing to understand because because these lenders like they have to make money somehow right and if they're going to come in and they're going to go charge you Bank rates for $100,000 loan there wouldn't be this industry and if there wasn't this industry there wouldn't be that access to Capital and so I don't think that like the actual mathematics of it is like the problem I think it's the perception of saying oh my gosh I have a 40% APR for you know $1,000 loan that's unsecured that like you know I can get in literally a day like that's not my point my point is like that is an awesome deal for you that is not like an unreasonable you know thing to get mad about so let let me just just dis intermediate Andrew for a second here no go ahead go ahead go ahead and go you know Drew I this is I think the place where we really agree which is that a 40% APR for an unsecured loan that you can get by clicking a button with no diligence is probably the reasonable rate right like that is probably the cost of capital that you should pay for a loan that is functionally not underwritten and not secure right and that they basically hand you for walking down down the street M um so I don't think that's that crazy the the flip side of it though is that because these loans are un are not underwritten and are not secured they must charge a 40% rate why must they charge a 40% rate because a lot of people default on them right and and and end up in some serious serious trouble um so the fact that they are not underwriting you the borrower is the red flag that maybe you should not take this loan because maybe you don't deserve it and maybe you're going to be in trouble if you click the button um I suppose that's like fair but then I guess you're saying that like there shouldn't be any access to Capital at all for like the lower Market is that like your perspective then uh no I mean I think that would be a absurd perspective like I think this capital is fairly priced uh for what it is I think people are taking it when they shouldn't take it for two reasons one because they don't understand that this is that once they click this button is a treadmill they will never get off because their underlying business economics are broken which is what is requiring them to need to borrow this money um and they also are not weighing it uh because of the way they're marketed they're not weighing against some other potential sources of capital for for businesses who are not so underwater that that this is not their only choice right if you are successful enough that you it's okay that you take an MCA you probably also have other sources of capital so it is it is a very thin line for the businesses that are okay to have to take an MCA because their fundamentals are sound but do not also have access to other sources of capital that section of the market rock and roll on the MCAS but I believe if you look at the amount of MCAS that originated many of them originated to people who should not be that should have never been originated so I think I'm I'm just a little bit like more darwinian then in that sense because I don't believe that like it's on like w flyer or Shopify to like the like I think it's like you know the burden is on the operator to actually understand like what they're doing like if you're if you get offered 100 Grand via the push of a button and you end up syncing your business for it like that's just natural selection in a capitalist you know system um you need and I and I I think we sort of agreed to that extent where it's like you need to like know that it's going to work for your business but Shopify has 3 million Merchants 2 million whatever the number is like they can't you know Case by case hold your hand and offer literal like literal advisory Services um and so I think they're basically doing their part in the ecosystem which is providing the access to Capital but the sort of the burden of understanding and and discipline in some ways uh really I my perspective is that it falls on the merchant because if you go and you take a loan and you haven't modeled it out or you don't understand how it works it can certainly hurt you and candidly like yeah like you don't deserve that loan if you've done that and you probably deserve to be suffocated by it yeah but and and that's part of the point of this conversation right is to say is to say like okay that's true and that's also true of like everything else in business which is like everything works better if you're good at it you know if you understand what's going on you know like literally your supply chain works that way your media buying works that way like whatever and so yeah think about think sorry not to interrupt like think about like agencies like there are agencies that will charge you a hundred grand a month if they can like is that is that the agency's fault for for doing that or is it the fault for not realizing they're paying a stupid rate yeah I mean I think this is and and Drew again I think I do mostly agree with you like I would not I would not see these loans regulated out of existence like that is not my position um and that is I think why podcast like this this is why I am so vocal you know people need to understand what is going on which I think is your point when they click that button my whole thing is if you are clicking that button and you are not also holding your hand a sophisticated financial model that says that you have payback in excess of the cost of capital you should not click the button and that's why I'm so vocal because I think there are a huge number of people who are clicking the button without understanding what button they're clicking and those people should not click the button again they they need uh to use your word an intervention right it's like that's like the right language for it it's like they get they're like somebody needs to sit them down and stop them and say like hold on a second um I actually want to come back a little move back a little bit further I think one of the other questions and and Drew I saw some interactions in your thread about this specifically just just so that we're clear about this um is like one of the questions here is actually around the specific math of it and um and and like you said like $9,000 on $100,000 loan you know may or may not be that much and actually when you do the marginal interest rate relative to the available options you you know by shopping this rate more maybe you save yourself $ thousand dollar or something like that it may not even be worth your time because once you start sort of carving out the marginal you know if you got a 35% loan versus a 40% loan on $100,000 like who cares it's not it's not worth your time right but but but I still want to clarify something you have said in a couple places that you think that if you negotiate and this is part one of the ways that people can be smarter about these that there's an option to negotiate them down to and I'm just quoting the timeline or the the range that you quoted here 18 to 35% now I don't know if that's totally true in today's Capital Market but like I mean are you actually seeing that true that people are negotiating this because because that you start to get to 18 to 35% APR secured and I'm like that's that's uh uh now now we're past the click of a button because we've negotiated it but like pretty close to click of a button that seems great to me um yeah so to be clear when you get a loan from something like w Fier it's certainly not a click of a button they have they have an underwriting team there's underwriting processes there's data requests it's it's it's it's it's very quick but it is absolutely by no means the click of a button sure sure sure and so I have uh a ton of experience with with with wer specifically um I I sort of wish I could be more specific on like the examples that that I would like to talk about um but I can tell you that if you negotiate the proper remittance rate um so let's just say like it's a million dollar payback and you think that you want that to be you know Bill's example was six months um if you can negotiate a remittance cap on those daily sales to the extent where it actually extends that out to nine months you're taking down sort of the multiplier on the APR right because you have you have a longer payback um so when you do that and you have a profitable business that is running smoothly maybe maybe you have Equity a lot of the times these guys like Equity uh as it just like a cushion because they know they're going to get their sales anyways and they know that the company has liquidity um you absolutely if Sofer is at like five right now you can have S for plus 20 and you're at 25 um those are rates that are absolutely happening um I've I've primarily I've sourc debt you know from a primary perspective that was below 20 below 15 even below 15 was obviously more common back in the day um from from a from a lender like this um but you're paying you're you're still paying like reasonable premiums on this this kind of debt um so to get to 35 is is a huge premium for for a lot of folks and um I think one of the one of the key callouts um is that that's going to be a larger facility anyways right because there's more money and so a lower interest rate actually equals more dollars to the lender which is another critical thing to understand um and I would and we we we'll get into uh more of this a little bit later but when you go to somebody like Dwight funding or assembled Brands and they layer in monitoring fees and Penny warrants and unused fees uh when you blend that all together into their already Sofer plus 12 interest rates uh you're getting very close to 30 anyways um and so you're actually from a cost of capital perspective paying you know again a slight premium for unsecured Capital that you can get in a matter of days if landing pages are any part of your strategy and you are scaling up your investment in more landing pages for more ads there is simply no better tool to do that faster better and measure it better that I am aware of than format I use format particularly with one of my clients where the same product has multiple benefits to this to different customers and there is just a huge reason to use landing pages there because landing pages help you develop full funnel messaging from creative all the way through the landing page and even into like a custom PDP and cart if you want to do it so that you have tight experiences where you can message a really specific way for your customers and we have seen incredible results with verat we've spun out like many many landing pages very very fast we have been able to measure performance really quickly sometimes spinning out a bunch of different benefit Focus landing pages sometimes testing different variations against each other sometimes just launching them all at once depending on the ad depending on the strategy and we've just been able to do it way faster and at way more scale and in turn push our spend up to the tune of like 50 to 100% it's a little hard to measure exactly but a huge amount uh all by being uh helped by formont formont is combo software and service so you get an account manager who will guide you through everything build landing pages for you so that you can extend your team uh I just think it's a great value for brands that are serious about using landing pages and building tight funnels in their advertising mix give it a shot try go to formont commerce.com right now get on a call with them see if Vermont is the right option for you uh you could try it for a few months at intro rates it really uh it really is an awesome service so formont commerce.com I've seen great results with it for any uh client that I have going forward where landing pages are a major part of the strategy they will be my go-to because it is the best solution I'm aware of in the space forat commerce.com Drew you're exactly right I mean like regardless of whether they price it at a lower rate and then they tack in all these monitoring fees and Penny warrants or they just charge you a true interest it's the they have to solve for a 30 to 45% cost of capital because that is what the the the math of their cost of capital that they borrow to lend to you plus the risk premium they have to command because of the number of charge offs they have that it just has to be the price of unsecured I'll use I'll say click the button Capital even if there's light lightly underwritten right unsecured Capital has to cost that much like that's just what it cost I think um not not to interrupt bill but I think I think like you make a good point and just to kind of let's think about that from like an LP Port portfolio perspective right so like there's all these different asset classes you have like private credit you have private Equity you have Venture Capital you have real estate and so like where that uh private credit like that mezanine credit if you will that high yield credit sits in from LP's portfolio perspective they literally sit in that trunch of return right so they're saying I'm going to put this much of my portfolio into venture capital and I'm expecting you know a th% irr or whatever and I'm going to put this much into private Equity I'm going put this much into private credit and the private credit sits at that cost of capital at that irr so that that's like a very critical thing to understand where that that is the only way to do it for them yes completely agree so like I don't think it's crazy the the price at which this capital is offered I think it is intentionally marketed as cheaper Capital than it really is and I also think and you know in my Consulting practice I unfortunately have met a lot of entrepreneurs ERS who are buried under these things man I mean like people because what happens is um they take one and they pay it back and they have to take another one sometimes they take another one halfway through the first one just to keep funding the first one because they're and they Stack Up and before you know it you're losing 40% of your daily sales to paying off your MCAS and you just don't get off the treadmill um and I a lot of times when I dig into these businesses you know the the MCA lender is not going to lose money because they're kind of sitting between the revenue stream and the business so their underwriting clears it and they go yes we can make this loan even if the business owner is never gonna get out off off this treadmill basically the last M MCA is the guy that takes the loss mca's one two three four you know hit their 40% irr Target and then somebody takes a you know has a has a workout negotiated haircut I have just seen so many entrepreneurs get so underwater because they end up in a situation I mean this is the psychology like in real life the way this happens is oh I need to buy $100,000 worth of inventory I don't have $100,000 in the bank click button right and then that inventory sells down and maybe they're a month from finishing off their first MCA but they need to buy more inventory again same thing click button and they start to stack uh and then people get into a lot of trouble and really they should have never borrowed the money because their business is not profitable enough in the very first place that's what I was just going to say like I I I was going to say like I'll say it in a different way which is if you're advancing all of your non-existent cash flow and then you need to continue to advance non-existing cash flow right like you can if you're going to use the the tool to generate cash flow then you're good but if you're taking advances on your Revenue that isn't generating cash flow you you just it's the treadmill you have to continue to do that so I I don't again I don't disagree with with that component of it um as far as like you know any sort of deceptive marketing I think um I disagree with that so like like if you go to like you know clearco or wfly or whatever like they don't they don't pitch you like saying hey like we're cheaper than everybody else at least not in my experience um I think like the the you know wayl website I'm looking at says like you accelerate your growth with FL fast flexible financing um so like that to me like doesn't necessarily and I'm not saying that they've never said that they're cheap or anything um but I think like it's fairly well understood that these things are you know not the cheapest uh component and so um that's the part where it's like okay like that cash flow that expense is what is what's putting you on the treadmill and that's why you know it all comes back to understanding the unit economics of your business and can you use this to pay off and if you can't then like you you know you shouldn't be running a business probably so here's so I agree with again I think we do agree for the most part Drew but the reason I think you guys are you guys are ruining my ability to like pull out some clip of this for the intro and just like I need you guys to yell at each other for like a minute just so so people will be like this is spicy yeah true you are wrong yeah thank you great that's much better now try not to smile here is the part that I do think is really important and why I do think pricing matters so Drew I think you were right when you say it is understood that these things are not the cheapest capital in the world um the problem is people don't understand how they are priced so they cannot compare because taking an MCA at a third even a negotiated say 30% cost of capital it would still probably be cheaper to revolve that balance on a credit card right at a a low 20s I credit card interest rates are low 20s these days and not only that you can actually revolve it without paying down functionally any principle so the cash the cost of capital and cash flow profile of revolving a balance on your credit card are preferable to an MCA and I think without understanding that an MCA costs 30% plus you can't make that comparison so I'll disagree there because let's just say that these um you know these these uh loans are typically used for inventory um so if you if you would rather revolve it on a credit card you subject yourself to a two to 4 credit card fee to buy the inventory with it right okay so now if we're going to do APR math let's do APR math on that uh on on a 4% credit and this is why I stopped doing it at mad rabbit was because like we used to pay for our inventory on a credit card but it's absolutely insane like so if if I'm gonna if I'm gonna pay for 300 500 Grand of inventory on a credit card with a 4% fee and you know it's two months like that's you know that's crazy expensive so um I also I I I certainly would disagree with with that but don't you have to factor in points in cash back too if you're going to do that sure like call it call it two and a half% net I mean if you if you pay a 2% fee on the credit card and you get 2% back on a car CR you know like I mean you so Drew makes a point that is that is good but not great I think because he's right yes if you that's better Bill thank you that's better better so the like yes if you put the invoice the inventory on a credit card and you're right Drew you pay a 3% fee even like you know let's say it's 2% net of points in cash back or whatever you pay a couple points of fee and then you pay it when your statement is due yes the APR is bananas right and and it really spikes it you've paid 2% for 45 days of money you know at best and that's really bad but that is not what I am suggesting I am suggesting put it on the credit card eat the net 2% fee hold it don't pay the statement revolve the balance Let It Go for a whole year and you will pay 23% credit card interest annualized interest plus the 2% fee you will have paid 25% cost of capital for the whole year by revolving that balance on a credit card you will have annalize the 2% fee you so that you're talking you're already at 35% no but you don't have to because you pay the fee once so be with me January 1 you pay a 2% fee to put a bill on a credit card right you then you've recognized 2% but you don't pay 2% a month you pay the annual every every time you use the every time you use the credit card well no but 45 days that's once every that's once every six weeks but make this like let's say you got a $100,000 bill and you're either gonna get take an MCA to pay it or you're gonna put it on a credit card and you and you don't think you can pay it back for a while longer longer than a statement cycle so like make this reductively simple one bill I'm gonna Finance it on a credit card or I'm gonna Finance it via an MCA right if I finance it via an MCA let's let's say a one-year MCA let's just make this all the same this is going to be a one-year m MCA I'm going to pay roughly a 30% Blended cost of capital with an MP an MCA and not only that I'm going to pay back principal throughout the year right with an MCA with a credit card I'm G to pay a 2% fee UPF front right once to get my credit card you know to process that card payment for the full amount of the invoice and then I'm going to acrew because it's a credit card or make the minimum payment which is functionally nothing right all all year at the end of the year if it's 100 Grand and I got a $23,000 or a 23% interest rate at the end of the year I will owe my credit card company $123,000 plus the initial 2% that it would cost me to put it on the card so another two grand I owe the credit card company $125,000 also I will have paid functionally nothing I would have had the whole the capital the whole year I pay them back $125,000 on December 31st I have paid less uh a lower PR and I have had the cash for far longer revolving B on a credit card yeah so so that that like Works uh under like the the sort of like Parker pitch which is like we have you know 60-day rolling terms or whatever assuming that like if you're going to place one single inventory order and you're going to let it sit there the entire year you're correct what happens though in practice is that you're actually going to have to place another order and so now I'm up against my credit card limit I have to pay down my credit card limit and now I just incurred that APR I agree with you yes if if you have if you're up against the limit then yes because you're incurring the 2% fee to put it on the card every time and you don't get the stretch and also isn't that card very likely personally guaranteed great point I was waiting for Drew to say that yes they usually are because to me that's that's the thing is like this is where like again the marginal savings between those two that makes the revenue based financing option sound or the MCA sound much better right where it's like now you're paying maybe a little more right even just to use your exact scenario your reductively simple scenario but crucially you are not you are not personally guaranteeing that and that is probably worth paying a marginal five grand for or whatever we just at the map yeah I mean to be I mean to be clear like yes if you're using like your personal credit card um but a lot of times like there like there are unsecured credit cards like then all the Neo Banks like give you like un like they're exclusive like credit agreements but they're like not they're not like they're not like first leans on a business to have like a you know like a row or Ram credit card a lot of the times like you have to qualify for that right the the the the cards that people use though the capital ones I'm arguing against myself but the capital ones and the chase cards and the amx's that everybody's using to rack up points and I have found that people don't know this so it's important to say this out loud all of those cards despite being marketed as business credit cards personally guar all personally guaranteed understand I've never used one of those that's something that I think that's I think your right Bill to call that out and make sure people know that because that personal guarantee thing is a really big deal especially if we're talking about the kind of business that actually could go out of business right like like which is like very often the case with the people who are exploring these loans is like uh is like you need to know what's going to happen if that happens and this is part of your debt stack uh and it's just really important I think the other thing this brings up and what you guys are getting at is like here's here's a way of this conversation happening that I hate one way of this conversation happening that I hate is people will say look uh if I have a 30% APR let's just say on a on an MCA loan right just called 30% um that or may not be a good interest rate but if I'm making 50% on my on my on an actual 50% return then it was a good move for me and the problem with that logic is that you're you're comparing the wrong thing because if it's if if that is true that you made money on it but if there was another option available at 20% you could have made more money if you'd have taken the 20% option and and so like the point here is that in the marketplace for debt uh you should be thinking about what is the best available Capital not just in a vacuum can I make money on this debt right so it may be the case may be the case that the MCA is the best thing like we're talking about here but at the same time what people are what people are not doing sometimes is thinking about what are the actual other available options um and and how does that stack up with this because yeah that's not even how I see it Andrew so like that's an optimization of the margin and I wouldn't even hold that against you like if you're holding if if you are working with Drew and Iris and you are holding your hand a financial model that says you're about to clear a 50% irr on this money and if you borrow at 30 or you borrow for 20 whatever I can forgive you like try to optimize your financial stack at the margin later the problem though is almost nobody is working with Drew and has that financial model and they have no idea what their return on capital is let's go there let's go there because I I actually so I actually agree with that too Bill what you're saying and and so this is actually where I would like to kind of like bring the conversation for a landing here which is um which is like let's now talk about the prac outworkings of this sort of thing because what you're saying is Right which is like and even Drew maybe I start with you like who actually should be taking these loans um you know even if you like even if you sort of Grant some of Bill's points that the APR is pretty high um you know relative to other available options PG or not PG factor that in however you want but like what is it that you like about them what kind of business should be doing this um and you know why should they be using Iris to help figure that out um so number one like if you don't have like a business with decent unit economics like debt will not save you so that that's like the sort of the caveat right uh number two you should always borrow you should always leverage what you have right so you make you can make a very expensive Mistake by being a high growth company that's turning over inventory very rapidly and going to assembled brands for example and getting an asset back revolver that's secured by collateralized by your inventory um so I've seen this firsthand where you're growing you're growing you're selling all your inventory okay great I have a million doar with assembled Brands and uh all of a sudden I don't have the borrowing base to actually get it from them that will cost you 75 100 150 Grand just to get out of the deal it's a kill feed so basically like what's what that's that's the you're in a game against all the lenders right the lenders want to charge you as much money as they possibly physically can without actually lending you anything because what's better then return on Capital return on no Capital right so what they want to do is they want to basically get you in a bind where they have to charge you for things where they don't actually have to lend to you because without without lending there's no risk so you need to go to lenders with money that you have or with assets that you have if you have a ton of inventory and you're just like a steady growing profitable brand great go to an a if you're a brand that is growing Revenue doesn't have any inventory doesn't really have a ton of equity that's who goes to the MCA and so these are the these are the companies that are scaling from aund a you know a couple hundred grand to a couple million um and then beyond I mean so a lot of a lot of uh companies that are even bigger scaled businesses you know 50 100 200 million they they'll go to something like wfire or uncapped or or whatever um because they don't actually have time if you wanted to go and raise $40 million of Bank debt in like a Syndicate you know with a couple different players it's going to take you and I yeah I mean it's going to take you months I mean Bill might even know better than I I've never done that for months yes months months of back and forth and financial modeling and like brain damage and negotiation and lawyers and yeah law there a cost to your time it cost your time not only your time not only your time but if we're in June and I'm trying to gear up for Q4 and I've got I've got a three-month lead time and I need the capital what's the premium that you're willing to pay on that right because if I'm G to try to grow from three million to 15 million I need that capital I need that inventory um and so the people who should use this are the ones that are growing in a decent way a decent you don't have to be going break neck I mean 20% 50% um and you have like a decent gross margin is like kind of the you know the two prerequisites that I would say yeah in fact tell me if uh bill you can respond to that point in this this this one I'll make too as well it sounds like the the ideal candidate for this is growing pretty fast growing in a way that's healthy um good enough margins to have a good business but probably not such great margins um uh at the unit economic probably contribution margin level really um that probably not such great margins that the growth is sort of easy to fund yourself right like I've looked at a business that has like I mean their their true cogs are like 8% or something like that 7% like they're they're they have extremely good margins that brand it's just it's almost impossible for inventory to cost them so much that it's a financial problem they can like fund it off their cash flow pretty easily there's um so like acrel profitability like obviously like as like a leading indicator of like cash flow but like you can still have like an extremely profitable business that actually has like a horrible working capital cycle um and like even and so like even if you're extremely you know the flip side you're unprofitable but you don't have to pay your supplier until 6 months out you can burn as much money as you want in the meantime um so I I actually don't think that it comes down to like the acrel profitability or like the contribution margin at least not in a vacuum um it has a lot more to do with like how fast are you turning over the inventory and like what how often do you have to pay for it um but there are two considerations of the same so with full acknowledgement that yes the Nuance perspective Drew gave if you have spreadsheets and someone like drew that is the way to look at it um given that I think many of the listeners here do not have someone like Drew you know a sophisticated ex Equity analyst investment banker on staff and they don't have a sophisticated financial model I want to try to maybe stir the pot a little bit and throw out some rules of thumb for when you should probably consider not taking an MCA so what Drew I think has said and which I don't disagree with which is if you were gr really fast and you have really good unit economics it is still possible for you to run out of cash and in which case I don't hate taking an MCA to plug the Gap right if you're if you're very profitable and you're growing very fast right because growing fast is what sucks Capital right um however and here's where maybe I'll say something that's controversial if your business is not growing at 25% year-over-year and you still need an MCA you probably have a business model problem not not simply a timing AC cruel I need Capital to grow problem e-commerce businesses that are growing at sub 25% a year should be able to self Finance the growth in their in in their asset accounts in their inventory now I'm not saying you might not have you might have a not have a ton left over right I mean think about it this way like if you you should have a 10 to 20% net margin right that should be enough to to Finance the growth in your inventory balance right it might take all your free cash flow but it still doesn't mean you need a loan and then you should ask yourself am I really taking a loan just to pay myself out right at a 40% APR so I'll put that flag in the ground I want to see how Drew reacts if your business is growing less than 25% year-over-year you should not take an MCA loan um trying to disagree um I mean like look I think vicious Drew be vicious well so here's I mean like if you are growing less than 25% um and like you're small let's say because like let's just say that you have to be doing like a million dollars a year just to even have a bank even sniff you um and you have no other option but to get the MCA in terms of like Capital if you think that you can quote unquote outgrow it if you think it's going to actually like you have some big retail opportunity coming up that you need to lean into um there's actually an opportunity to generate margin expansion off the back of these things um so like an example would be like uh you know I'm doing a million dollarss a year I'm not growing very much but I have a nice CVS uh launch coming up and if I don't spend money on marketing and turn that over I'm not going to get POS in that are going to expand my margins and start to generate cash flow at all um so that's like obviously a risky bet in a lot of cases but at you know so is a $1 million a year business growing 20% so I think um there are probably like cases Bill where like I would I would disagree with that in general um because it again it's it's sort of what we talked about before with regards like a return on Capital equation so like if I can generate a special return on this capital in a way that changes the business and candidly this is kind of what we did at mad rabbit in the earliest days like we wouldn't we wouldn't have grown the same way without these things um because we saw special opportunities to go into Amazon and Amazon was a huge business that grew really quickly for us um and you know was the the business overall was actually better off for it um because we saw better Blended CS once we introduced that channel um so I think there if if you have a special investment opportunity um and you don't have the money to do it but that investment opportunity will yield margin expansion um then there is there is a case to be made that that's actually the right way to go so would you say that if you are forecasting if you see an opportunity that might lead you to grow more than 25% you might consider an MCA but if you're looking backwards and you don't see 25% growth and you're looking forwards and you don't see 25% growth what you need to do instead of taking the MCA is is increase your your margin structure you need to raise prices you need to cut costs you need to drop your CAC like you need to cause more if you feel like you need an MCA and you are not growing at least 25% a year you have a business model problem not a financing problem and you can that for the preview no yeah I uh I agree I think um you can think about it like uh let's think about the cash flow statement right there are three ways to increase cash in a business either via operating cash flow fin in cash flow or investing cash flow investing is not generally a source of cash um but you can say okay if I can't do the financing one then I have to do it in the operating cash flow what how do you increase operating cash flow you can either increase net income which is like the first line in there um or you can do some like working capital manipulation but I think Bill's point is that's not always sustainable probably um so yeah I would agree like mathematically speaking like there are only so many levers that you have uh available to you in order to actually generate cash and just continuing to like pedal the MCA treadmill is is not advisable for certain kinds of businesses and specifically low growth poor unit economic businesses all right that was great um I think that's a good spot to stop on uh guys thanks this is extremely helpful nuanced but also I think really clear and um yeah I think it's really good um so uh let's do a couple things which is first of all you both of these people on this call can help you think through precisely the kinds of issues that we talked about this they can do it in really different ways bill at the time of recording this you have I believe one space available for another Co Consulting client for um to help people think through exactly this kind of issue to bring your expertise to their business on their debt stack on their financial modeling and planning uh talk about that really fast and where people should reach out to you if they want your help with their business or if they just want to get on your weit list for when inevitably that spot gets taken another one is available at some point yeah so I do Financial operations and optimization Consulting for growing Ecom Brands so I only work with four Founders at once I'm working with three founders right now so I have one spot as of when we're recording this uh September 5th um my services are best suited for Brands doing at least five million in Revenue um so just because you know you got to be able to afford me and there's got to be enough to be able to optimize um but we talk about you know not just optimizing your debt optimizing your banking optimizing your credit cards optimizing and automating your accounting um you know we do monthly Financial reviews you know kind of think like board member for hire um so I do that for Ecom businesses if that sounds like you uh give me a jingle build.com uh and I will of course Link bild.com in the show notes so you know where to click and go reach out to Bill uh Drew you have built software to help people solve all of this and uh and it is um called Iris Financial tell people about it yeah so I mean Iris um kind of the main point is you know Bill Bill made a good point earlier about how most people don't have a sophisticated in-house you know analyst or banker and um I goal is basically to use artificial intelligence to bring that to every single brand to democratize access to that kind of knowledge um and so you know what what we generally are helping people with uh is their financial analytics and forecasting um so it's fpna Financial Planning and then a analysis um and so U really any brand we have brands that do you know several hundred million we have brands that do one million um it doesn't really matter because you know the sort of scale that you're at because in in our opinion you know unit economics and and cash flow and and understand understanding your plan always always matters um which was a lot of this conversation right so um one of one of the interesting things that we're rolling out is actually like a debt schedule uh scenario model where you can kind of like plug in different terms from different lenders that would be like super relevant so uh not available yet um but we do have like cash flow modeling Financial modeling unit economic analysis Etc so um yeah where do people go to get that oh uh Iris finance.

Co you got to get better at saying that part of it drew come on me I me it's linked in the show Notes too it's fine obviously linked and it is really cool software H it is a big step up for Ecom Brands so you should consider consider using really awesome to not just uh sit on the podcast and Twitter Sidelines and tell people they're dumb about math but to actually help them solve the problem yeah so appreciate it um all right guys this is great thanks so much for your time uh all the links again are in the show notes including past episodes with both these guys if you enjoyed this you will like those very much you can also by the way if you want to hear Bill talk about this sort of thing more often go check out his podcast Acquisitions Anonymous where he talks through um different businesses and how to uh think about uh the m&a process for different businesses and not really the process so much as the financial makeup of these businesses really really cool stuff so um uh Bill and Drew thanks so much next time let's find a topic you guys disagree about more and get a little bit a little bit angrier and uh and we'll do it again thanks guys thanks so much for watching or listening to this episode subscribe wherever you are doing that of course and don't forget to follow up with not only my guests Drew and Bill but also with my sponsors for M uh and more Staffing the links to both of those are in the show notes I'm so grateful to them who make it possible for me to make this show and I hope you have enjoyed it as much as I enjoyed that conversation like I said uh reach out to me by emailing me at podcast ajg.com or hit me up on Twitter at andrewj feris you can also go to AJF gr. comom to see and get access to everything I'm doing including this newsletter that I'm working on spinning up as fast as often as possible go to asf.com drop your email there it will come soon enough all kinds of great episodes coming soon don't forget to subscribe talk to you next time [Music]