The financing world is full of phrases and ideas that may be new and confusing to small business owners. Until you’ve really dealt with a business bank or factoring institution, you may not really know how these things work.
That can be problematic, because there are services and products designed to make your life easier. There are also financing concepts that, once you understand and implement them, make your business more efficient and profitable.
This glossary briefly introduces a range of important terms for SMB builders—everything from bridging loans to working capital requirements. We also include links to further reading should you need more information.
We hope it helps.
Accounts payable financing
Accounts payable (AP) financing lets you borrow money based on unpaid bills you owe. If you have an invoice from a supplier showing how much you owe, you may be able to borrow that same amount from a lender.
This type of financing is also sometimes called inventory financing or reverse factoring. These terms are slightly different, but the basic idea is the same. (See explanations of both below.)
Like any loan, you agree to pay back the borrowed amount within a set time. You’ll also pay a small fee or interest, so the total cost will be more than paying the supplier directly.
Still, accounts payable financing has clear benefits, especially in the right situations.
Assignment of receivables
The assignment of accounts receivable is a way to get a short-term loan. A creditor (the "assignor") transfers the rights to an invoice to another party (the "assignee") in return for upfront money.
Imagine a customer owes you money, but it’s not due for two months. You can use that unpaid invoice as collateral and get a loan from another company. If you don’t repay the loan on time, the company you borrowed from will collect the money directly from your customer.
The costs depend on the terms, but you’ll usually pay interest and fees. Paying back the loan quickly can save you money.
Learn more about assignment of receivables
Bridging loans
A bridging loan, or bridge financing, is a short-term cash advance. It helps businesses cover expenses while waiting for future funds or long-term financing. This type of loan is replaced later by a longer-term solution.
Startups often use bridge financing to get money from investors. Traditional businesses also use it during slow seasons or to test ideas before committing fully.
Bridge financing is common in mergers and acquisitions, during fundraising rounds for startups, in leveraged buyouts, and for speeding up projects while waiting for equity or loans.
This funding is useful when long-term investment is needed, but the timing isn’t right due to the economy or recent company performance.
Bridge loans usually have higher fees or interest. Since they are urgent and you have less power to negotiate, these costs are hard to avoid.
Learn more about bridging loans
Cash conversion cycle (CCC)
The cash conversion cycle (CCC) is the number of days it takes to turn your inventory into cash from sales. It measures the time between spending money on inventory and getting that money back as sales income.
This is also called the operating cycle and is similar to the working capital requirement (WCR), which is another important cash management measure.
How to Calculate CCC
The CCC formula is as follows: CCC = DIO + DSO - DPO
Here’s what the individual parts mean:
- Days Inventory Outstanding (DIO): How many days, on average, inventory stays in stock.
- Days Sales Outstanding (DSO): How many days, on average, it takes customers to pay you.
- Days Payable Outstanding (DPO): How many days, on average, you take to pay suppliers.
These three numbers show how long it takes to turn your purchases into cash in your account.
Learn more about the cash conversion cycle
Cash flow forecast
A plan, budget, or cash flow forecast is a table showing cash coming in and going out. Every item includes VAT. It covers all money movements in the business. This includes regular activities like buying, selling, paying salaries, and VAT. It also includes occasional things like investments, loans, or financial aid. Every bank transaction is listed.
A cash flow table usually includes:
- Rows: Categories of income and expenses.
- Columns: Time periods (weeks or months).
- Bottom row: The cash balance for each period, carried over to the start of the next.
The level of detail depends on the purpose.
- For an eight-day forecast, you’ll need detailed entries.
- For a three-year plan, month-by-month categories are enough.
Learn more about the cash flow forecast
Cost of goods sold (COGS)
COGS (cost of goods sold) are the costs of making your products or services. These are subtracted from your revenue to calculate gross profit and gross margin. People often confuse COGS with operating expenses (OPEX). OPEX includes more expenses, not just those tied to making products.
COGS are calculated for a specific period, like a quarter or a year. Only costs from that period are included.
Examples of COGS
COGS only includes costs directly related to production, such as:
- Raw materials
- Labor for production
- Factory or lab overheads (sometimes rent)
- Parts and tools used in production
Examples of OPEX
OPEX covers other expenses that affect your net profit but are not part of COGS, such as:
- Rent and utilities for offices or stores
- Shipping and distribution
- Marketing and advertising (including staff)
- Sales team costs
- Corporate staff (like HR, IT, accountants, and legal staff)
- Research and development (seen as an investment, not a cost)
Credit underwriting
Underwriting is when a lender checks a borrower’s credit history and finances to decide if they can safely lend them money. This has traditionally been a highly manual, slow process for both parties in a financing deal.
Automated underwriting uses technology to speed up the loan process. It replaces manual checks with algorithms and AI to make decisions. A human agent works on one file at a time and can only manage a few cases at once. Automation, however, can process countless claims at the same time
Tasks like reviewing documents and checking credit, which used to take hours or days, can now be done quickly by machines. This makes lending faster and fairer.
Learn more about automated underwriting
E-invoicing
E-invoicing means making, sharing, and storing invoices electronically for business transactions. This is not the same as digitizing a paper invoice by scanning it into a digital file. With e-invoicing, each invoice is digital from the beginning.
The European Union is mandating e-invoicing for businesses as a way to reduce tax fraud and encourage intra-community trade. Soon in France, Germany, Spain, and more, all invoices will need to follow a standard format. They will also need to be submitted, reported, and have VAT paid through a central system. The goal is to make B2B invoicing clearer, faster, and more consistent.
Once the process is widespread and running smoothly, this should lead to far more efficient billing. But there will likely be teething issues for companies and governments in the near future.
Early payment discounts
Discounting usually means offering buyers lower prices in exchange for a benefit to the seller or supplier. Early payment discounts are one example of this.
Here are two key types of discounts for B2B transactions:
- Early payment discounts (or “prompt payment” discounts): A seller offers a discount if the buyer pays their invoice before the due date. This benefits both sides—the buyer pays less, and the supplier gets cash sooner. It’s the opposite of late payment penalties.
- Trade discounts: These are given to buyers who purchase in bulk. The discount usually increases with the size of the order. For example, buying 1,000 units might get you 10% off, but 10,000 units might get you 20% off.
These types of discounts are similar to those offered to regular customers in any market. With strong relationships and regular business, you may also negotiate better rates than others.
Learn more about early payment discounts
Embedded finance
Embedded finance means adding financial services to an existing platform or product. Instead of creating these services yourself, you use ones built by other companies. This is usually cheaper, faster, and more efficient.
While it’s getting a lot of attention now, embedded finance isn’t new. For example, if you bought a computer from Apple or Dell, they may have offered a warranty or payment plan at checkout. These financial options weren’t created by the computer makers but were available for you to use right away.
What’s different now is that embedded finance is accessible to everyone. In the past, only big retailers could afford it. Today, any business can easily add financial services to improve the customer experience.
Learn more about embedded finance
Embedded lending
Also known as “embedded credit,” embedded lending lets businesses without their own lending services offer loans and financing to customers. This works for non-financial companies that don’t have a banking license. These businesses can easily add lending to their products to boost revenue and keep customers longer.
It’s already common in e-commerce. For example, Shopify Pro gives sellers credit to buy inventory, using their sales history to decide if they qualify.
Banks and financial institutions can also use embedded lending to reach new markets or customers. For example, a mortgage broker could offer small business loans without creating the services from scratch.
This works by “embedding” third-party lending services into an existing platform. Instead of building everything from the ground up, businesses add a ready-made lending service to their products.
Learn more about embedded lending
External financing
External financing is when you get funding from outside sources, like banks, investors, or crowdfunding sites. It’s often used for large projects when your own resources aren’t enough.
Types of external financing include:
- Bank loans: These are traditional loans with fixed interest rates, useful for things like buying equipment or expanding.
- Equity investments: Investors give money in exchange for ownership. This includes venture capitalists or angel investors.
- Crowdfunding: Raise money from the public for creative or new projects.
- Grants and subsidies: Funding from the government or other organizations for specific projects, like sustainability or innovation.
- Leasing: Rent equipment instead of buying it to keep cash flow steady.
- Fintech solutions: Platforms like Defacto offer quick and flexible funding for small businesses with fast approvals and clear terms.
Learn more about external financing
Factoring
Factoring lets businesses sell their unpaid invoices to a third party, called a factor, in exchange for an upfront cash advance. You give the factor some of your unpaid customer invoices, and they provide you with a cash advance based on future payments. The factor collects the payments, and once received, the agreement is settled.
The contracts are also usually simpler than those from banks. Banks might reject a loan request, especially if the company is new or facing financial issues.
The factor, however, looks at the creditworthiness of your customers when deciding to approve the contract. So, even if your company has cash flow problems, you might still get a factoring agreement.
Inventory financing
Inventory financing helps businesses get cash to buy raw materials or goods for storage. It’s a short-term loan or cash advance to purchase products, usually requiring collateral.
Manufacturers need raw materials, supplies, and packaging to make finished products and get them ready for delivery.
Service companies also need cash for their work in progress. They rely on suppliers, service providers, and their own staff to create services for customers, and this takes time and money.
Borrowing funds to build these stocks keeps your existing cash available for other necessary purchases, and optimizes your cash conversion cycle.
Learn more about inventory financing
Invoice factoring
Invoice factoring is a means to raise funds against unpaid invoices. There are two main types of invoice factoring:
Factoring
Company A sells its invoices to a factoring company B. The factoring company (B), usually a bank or its branch, gives company A an advance payment. Company B is usually responsible for collecting unpaid sums from Company A’s customers.
Reverse factoring
Reverse factoring deals with accounts payable instead of receivables. It happens when company A needs to pay supplier B quickly but doesn’t have enough cash.
In reverse factoring, supplier B sells their invoice to a financing company C. Company C then pays supplier B the amount owed. Company A will later repay company C when the invoice is due. This process is done at company A’s request, not the supplier’s, which is why it's called "reverse" factoring.
There is also a simpler version of this process that doesn’t involve supplier B directly. Company A just gets a loan or line of credit from company C, agreeing to repay it later.
Learn more about invoice factoring
Internal financing
Internal financing means using your own business funds—without banks, investors, or outside help. You use your own financial resources, which usually come from:
- Retained earnings: Instead of paying profits to shareholders, reinvest them into new projects.
- Self-funding: Use your business’s cash reserves for things like buying equipment or developing products.
- Depreciation funds: Save for replacing assets by accounting for their wear and tear over time.
- Provisions: Set aside money for future risks. If those risks don’t happen, use the funds for other needs.
Internal financing works well for smaller projects, like maintaining equipment, making product improvements, or training your team. It’s also a good option if you want to avoid debt and focus on steady, controlled growth.
Learn more about internal financing
Lending-as-a-service (LaaS)
Lending-as-a-service lets financial providers and fintechs offer loans and credit services without dealing with the technical and legal details. You can add financing or working capital loans to your products without the stress or financial risks.
To do this, you partner with a third-party provider, known as a LaaS provider. They are experts in lending regulations and practices.
With this partnership, you can offer loans and financing to customers alongside your current products. A white-label service is often used for this.
Liquidity ratio
Liquidity ratios show how easily your company can pay its short-term bills using its available assets. They help you check if your business can cover expenses like bills, wages, and other urgent costs without needing loans or credit.
There are different ratios that measure liquidity, such as the current ratio, quick ratio, and operating cash flow ratio.
Liquidity is about having enough money or assets that can quickly be turned into cash to pay for short-term costs. These costs include things like rent, payroll, utility bills, or buying inventory. Liquid assets are cash in your business account, money owed by customers (accounts receivable), or products you can sell quickly.
Learn more about liquidity ratios
Negative working capital
Every business needs money to run day-to-day operations, buy goods or services, and sell to customers. Often, products are kept in stock for a while before they are sold.
These operations happen regularly, week after week. The cash flow gap between when money goes out and when it comes in is called the working capital requirement (WCR).
To calculate WCR, you subtract current liabilities from current assets. The result will be either positive or negative.
The word "negative" usually has a bad meaning. But if WCR is negative, that’s actually good news. It means you’re getting cash from sales faster than you’re spending it.
Learn more about negative working capital
Non-dilutive financing
Non-dilutive financing lets businesses get funding without affecting their shares or ownership. It doesn't reduce your control or ownership stake. It helps companies grow or start new projects without giving up decision-making power or a share of future profits.
On the other hand, dilutive financing means you receive money by giving external investors a part of the company. These investors can be individuals or organizations. This is common in startup funding and mergers.
The main difference between these two types of financing, besides the loss of ownership, is that dilutive financing is often harder to get. This type of financing typically comes from professional investors like investment funds, who are usually looking for high-growth projects and often have strict conditions.
Learn more about non-dilutive financing
Open banking
Open banking is when banks and financial institutions let others access and use their data. This helps create more connected and integrated financial products.
Information is only shared with the customer’s permission. Customers decide what data is shared and with whom—data security is not compromised. There are strict rules, like PSD2 in Europe, to keep data safe.
All transactions and data sharing are protected by authentication and encryption, ensuring that financial information stays safe from unauthorized access and cyber attacks.
Profit margin
Small business owners often talk about their profit margins, but there are different types of profit margin calculations:
Gross profit margin
This is the money left after you subtract the cost of goods sold (COGS) from your revenue. It shows how much you make from selling a product after covering the specific costs related to that product. The formula only includes COGS and doesn’t consider other business expenses like operating costs or staff salaries. It helps you see how profitable individual products are, but it doesn’t reflect the overall efficiency of your business.
Operating profit margin
This margin is what’s left after deducting both COGS and operating expenses. It includes all costs of running your business, not just buying and selling goods. This gives a more accurate picture of your company’s profitability. It’s easier to calculate than net profit margin and gives a clearer view of your business’s financial health.
Net profit margin
This is the profit left after you subtract COGS, operating expenses, interest, and taxes. It shows the true profit of your business, but it can be harder to calculate.
Interest and tax rates can change and are often beyond your control, so it may be better to focus on managing COGS and operating expenses, which are more within your control. However, taxes and interest do reduce your profits, so they still need to be considered.
Learn more about profit margins
PSD-3
PSD3 stands for Payment Services Directive 3. It is a set of rules that govern payment service providers in the EU. PSD3 aims to protect consumers' data and rights while supporting the open banking system that facilitates payments and financial services in Europe.
PSD3 builds on the successful parts of PSD2, with a few important updates:
- Fraud protection: Payment service providers (PSPs) will have to ensure that IBANs match the identified user for credit transfers across Europe.
- Easier access to bank services for PSPs: Banks will need to explain why they decline access to their services for PSPs. This makes banking more open and creates more connections between providers.
- More refund options for consumers: Customers who fall victim to scams or are wrongly flagged as risky may be entitled to refunds.
Additionally, the Payment Services Regulation (PSR) will turn most of the PSD2 rules into EU law.
PSD3 and PSR are expected to be finalized in 2025 and come into effect in 2026.
Revenue-based financing
Revenue-based financing gives you an advance on your future or recurring revenues to cover costs. Unlike traditional loans, this type of financing doesn’t rely on your company’s balance sheet or assets, so no collateral is needed.
Instead, lenders receive a percentage of your revenue until the loan amount, plus any agreed interest, is fully paid off.
This financing is fast, flexible, and helps you preserve your capital while enabling growth. It’s also non-dilutive, meaning you don’t give up any ownership in your company.
Most importantly, it provides cash right away. You don’t have to wait for customer payments and can recoup your investment quickly.
This is a great option for tech companies or those with long sales or payment cycles looking to finance short-term growth.
Learn more about revenue-based financing
Reverse factoring
Reverse factoring, also known as supply chain finance, is a short-term financing option that helps you manage your finances more easily. It lets you pay your suppliers before their invoices are due, which helps you maintain control over your cash flow and good relationships with your partners.
This works differently from traditional factoring. In reverse factoring, the buying company starts the process. You tell the financial institution how much you owe a supplier, and the factor pays them right away. You then repay the factor later, with added fees.
This solution helps improve cash flow, meet payment deadlines, avoid defaults, and maintain healthy supplier relationships. Reverse factoring allows you to pay suppliers on time without draining your cash.
For small businesses, this can be useful as bridge financing during slow periods, when you have bills to pay but not enough cash coming in.
Learn more about reverse factoring
Self-funding ratio
The self-funding ratio shows how much of your business financing comes from your own money instead of borrowing. It’s a measure of self-reliance.
A high self-funding ratio means your business has enough cash to handle debts and invest in new projects without relying too much on loans. It shows financial stability and the ability to manage unexpected challenges or tough economic times.
If your business has €80,000 in equity and a total balance sheet of €120,000. Your self-funding ratio is (80,000 / 120,000) × 100 = 66%.
This shows you’re in a strong financial position and have the kind of stability banks like to see when considering loan requests.
Depending on your industry, a good ratio can range from 20-30% (tech startups), to above 60% (services businesses with few fixed assets or overheads.
The key is to compare your self-funding ratio to industry standards to see how you stack up.
Learn more about the self-funding ratio.
Short-term financing
Short-term financing is a loan or line of credit that must be repaid soon, usually within three to six months. It refers to any loan or credit with a quick repayment time, different from regular loans or bank overdraft options.
This is different from startup or small business loans, which are often paid back over several years. It’s also not like venture capital, where investors get their money back during future funding rounds or when the company is sold or goes public.
Short-term financing is helpful for small businesses with urgent funding needs, such as buying stock, paying seasonal workers, or running time-limited marketing campaigns.
Learn more about short-term financing
Solvency ratio
Solvency is your business’s ability to pay back long-term debts. It depends on your assets: if what you own and are owed is greater than what you owe, you're in good shape. A strong solvency position makes banks, investors, and partners feel confident.
For a solvent business, getting financing is easier, credit terms are better, and growth is more secure. On the other hand, poor solvency can limit your options and even put your business at risk.
The solvency ratio measures your business’s long-term financial health by comparing your equity to your total debts. A high ratio means you have enough resources to cover your debts, even in tough times. A low ratio means you rely too much on borrowed money, which could cause problems later.
Learn more about the solvency ratio
Working capital financing
Working capital financing is a way to borrow money to cover your business’s daily expenses. Unlike long-term financing, which is used for things like research or major investments, working capital financing gives you quick access to cash when you need it most.
This is different from startup loans or venture capital, which are used to launch a business or help it grow when cash flow is not yet a concern.
Working capital financing is meant for short-term needs, helping with specific cash flow challenges. When used properly, it allows business owners to manage cash flow strategically while keeping savings and other funds for emergencies.
Learn more about working capital financing
Working capital requirements (WCR)
Working capital requirement is the amount of money your business needs to cover day-to-day operations. Before you can sell products and collect payments, you must buy goods, materials, or services from suppliers.
In simple terms, you need money to keep things running. The working capital requirement is the gap between what you spend (outgoing cash) and what you earn (incoming cash). You need to cover this gap through financing or other solutions.
A business with positive working capital needs to find ways to meet this short-term cash need. This is common for most businesses.
On the other hand, a business with a negative cash conversion cycle has extra working capital. This happens when customers pay before you pay suppliers for raw materials. In this case, you can use the extra cash for investments. This often occurs in businesses where customers pay upfront, like in retail or large-scale distribution.
