Podcast: Good Debt vs. Bad Debt: How to Fund Your DTC Brand Without Sinking It
Episode Summary
In this episode of the Free to Grow CFO podcast, Jon Blair and Keith Kohler discuss the intricacies of financing for DTC brands, focusing on the importance of understanding good versus bad debt, the journey of K2 Financing, and the common reasons consumer goods brands require debt. They explore risk assessment between inventory and accounts receivable, the nuances of revenue-based financing, and the critical factors beyond just cost of capital that founders should consider. The conversation also delves into maturity matching in debt financing, multi-layered debt strategies, and the essential diligence items needed for successful lender conversations.
Key Takeaways
Capital is essential for scaling DTC brands.
Availability of capital can be more important than the cost of capital.
Multi-layered debt strategies can provide flexibility and growth opportunities.
Maturity matching is key to ensuring debt aligns with asset consumption.
Episode Links
Jon Blair - https://www.linkedin.com/in/jonathon-albert-blair/
Keith Kohler - https://www.linkedin.com/in/keithkohler1/
Free to Grow CFO - https://freetogrowcfo.com/
K2 Financing - https://www.k2financing.com/
Meet Keith Kohler
Keith Kohler is the Founder of The K2 Group LLC, a finance consultancy specializing in helping CPG founders secure the right financing at the right time™. He has originated and closed over $100 million in financing and authored the CPG Financing Guide, covering debt financing options for CPG companies at every stage. Keith also offers a 30-minute strategy call to help founders develop a 2-3 year financing plan.
A sought-after speaker, Keith has led financing webinars for the Specialty Food Association, Hirshberg Entrepreneurship Institute, and Emerging Brands Summit. He created both CPG Financing Month, a series of conversations exploring the financing and mindset journeys of CPG companies, and the Making the Numbers Work® for You retreat (www.makingthenumbersworkforyou.com) where he helps founders overcome anything holding them back from the successful management of their business finances.
Keith supports CPG founders in several other roles, including as a member of the selection committee of Nutrition Capital Network and a Wharton Venture Lab Expert in Residence and Mentor.
Transcript
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00:00 Introduction to DTC Financing Challenges
03:10 Understanding Good Debt vs Bad Debt
05:57 The Journey of Keith Kohler and K2 Financing
08:49 Common Reasons for Debt in Consumer Goods Brands
11:44 Risk Assessment: Inventory vs Accounts Receivable
14:58 Revenue-Based Financing and Its Implications
18:06 Factors Beyond Cost of Capital
21:11 Maturity Matching in Financing Strategies
23:41 Navigating Multi-Layered Debt Strategies
26:02 Understanding Debt Financing Options
28:27 Capital Efficiency and Profitability
29:20 The Role of Lenders in Growth
32:51 Crafting the Perfect Pitch to Lenders
38:54 Preparing for Debt Conversations
42:48 Fun Facts and Closing Thoughts
Jon Blair (00:00)
Hey, hey, hey, what's happening everyone? Welcome back to another episode of the Free to Grow CFO podcast, where we dive deep into conversations about scaling a DTC brand with a profit-focused mindset. I'm your host, Jon Blair, founder of Free to Grow CFO. We're the go-to fractional CFO firm for eight and nine-figure DTC brands, and today I'm here with my pal, Keith Kohler, president and financing strategist at K2 Financing. Keith, what's happening, man?
Keith Kohler (00:27)
Hey, good day, Jon. Happy to be with you today.
Jon Blair (00:30)
Yeah, thanks for joining. mean, you're at the tail end of your CPG financing month of February, correct?
Keith Kohler (00:38)
I am, yeah, this is my second year and what I aim to do is provide a survey of topics touching debt financing in various different ways. So for this year the theme was how to, so I got a bit more practical and tactical about not just types of financing but how do you go about getting it and what are the perspectives and kind of key insider ideas you could be equipped with so you have the best chance of success.
But this week, the last week, I'm launching my podcast, How I Financed It. And so those are the three final episodes. I hope you'll all tune in.
Jon Blair (01:09)
I love it.
I can't, hopefully I'll get lucky enough to be able to join as a guest, because I've got some fun stories about how we financed some crazy things at Guardian Bikes when I was scaling that brand.
Keith Kohler (01:23)
Well, consider that your self-invited invitation for a future episode, Jon, really, that's well done. That was a clever one. So yes, the answer is yes, because those are exactly the stories I wanna be telling is where do people start from beginning through the financing lens and kind of where does it go from there in strategy and ups and downs and all those different types of things.
Jon Blair (01:26)
Yeah.
Ha!
Awesome. Well, I'm stoked to get into our conversation today because as you and I both know me being a fractional CFO in the DTC space and you with your debt financing background on the service you provide, when you're scaling a CPG brand, and I would say even furthermore when you're scaling a DTC brand that is from an asset perspective mostly or only has inventory, and by virtue of being a consumer goods brand, you're capital intensive, right? Which means what?
Keith Kohler (02:04)
Hmm.
Inventory.
Jon Blair (02:17)
You need capital to scale and unfortunately, as you scale fast, you need more and more capital. And the thing is, out in the debt world, as you know, there are so many outbound sales contacts that are happening. Founders are getting hit up left and right on LinkedIn, email, even text message with all these different debt financing products. And the challenge is knowing what is good debt versus what is bad debt, right?
Taking on bad debt is just maybe even worse than not taking debt on at all and not having the money that you need to scale. And so today we're gonna talk about good debt versus bad debt, how to fund your DTC brand without sinking it. So before we get into the weeds on this topic, I'd love for you to take the audience through your background and your journey to ultimately starting K2 financing.
Keith Kohler (03:10)
Yeah, thanks, Jon. When I think about what my own journey has been, because again, I am a business owner myself too, offering financing and financing consultancy. And my journey started a little over 20 years ago. And at that time, I was doing various different projects. I really wasn't lighted up by anything. I would tell you, I didn't know it at the time, but I know it now.
I'm very much a purpose driven founder. I have to have a high level of a reason why to do what I do. Not just for myself and the solutions I provide, but the type of people I work with. So I'm naturally drawn to this mission driven, better for you products, the types of products you would see in a Whole Foods or people who are disruptive in what they're offering to the world. A better mousetrap is the old cliche. And those are the people that tend to find me.
20 years ago, actually, this last month, I was diagnosed celiac, which is gluten intolerant. So when you see the word gluten-free on a packaging, that's relevant to my community, the celiac community. And at that time, I was actually the business development director for the gluten-free certification organization. The first one hired outside the organization, and it was still when gluten-free was nascent and growing. We know now it's a bit different than that. It's ubiquitous, quite everywhere. And what happened was, is I was talking with founders
Jon Blair (04:23)
Yep. For sure.
Keith Kohler (04:31)
many of whom were in a classic American metaphorical sense, garage based businesses, people who didn't have a lot of resources. They were just trying to make a product for a family member or a relative or something like that. So not surprisingly for a lot of them, supply chain, we know that's a big topic, was difficult, but finance was too. And that set off a light bulb in my head saying, wait a minute, if I can help these companies get financed, then I'm doing something for me to have more access to products that I can use and to a community I care deeply about. And that's what kicked me off. So gluten-free led to broader natural organic world, such as Expo West, Nutrition Capital Network, I became a member of that. And then it all just cascaded out from there. But it was only until about five or six years ago where I really got incredibly laser focused and serious. And the pandemic was incredibly helpful for me, it gave me a chance to really reset and think broadly about how I want to serve our community, both in transaction, getting the money, and transformation, how I help them think about managing their business finances.
Jon Blair (05:39)
I love that, I love that. Free to Grow was born out of a fairly analogous kind of like purpose driven kind of soul searching journey that I went on. I was part of the founding team of a fast growing econ brand and about three years ago was really feeling like how do I do good in the world? I'm a Christian and so I believe that like God creates, like uses business to make the world a better place. And I was like, okay what?
Keith Kohler (05:57)
you
Jon Blair (06:08)
Who is the group of people that I can make the biggest positive impact in their lives, right? And having been on the founding team of a brand and expanded my network with so many other brand founders, I'm like, man, the most stressed out group of people I know is brand founders because they get into business, they're usually, like you mentioned, they're product-centric, right? Usually there's a problem they see in the marketplace and they find a product to close the gap that they see in the market and they're really pumped because like,
Keith Kohler (06:24)
Big time.
That's it.
Jon Blair (06:38)
it serves some really important purpose to them. And then they start scaling and they're like, shoot, managing the money is like something that I see the importance of, but like that's not what lights me up, right? Like I'm the product person, the marketing person, maybe the sales person. And so I saw the stress around that for scaling brands and was like, well, hey, me having an accounting and finance background, like let's package what I've done in house as a CFO.
Keith Kohler (06:51)
100%. Yeah. Yeah.
Jon Blair (07:06)
and controller and accountant over the last 15 years and let's bring it to founders in a fractional kind of product ties way where they can get the CFO and the accounting support they need but without the full-time, you know, full-time overhead or price tag of building that team internally. So I love that. Let's talk a bit about consumer goods brands. Obviously DTC being included in that but consumer goods brands.
What do you see are the most common reasons why they need debt? What is it about a consumer goods brand that drives the need for debt capital as they grow?
Keith Kohler (07:44)
Yeah, sure. So just by way of background, I like to look at companies in different funding stages and I named four of them. First is the startup and early stage. And I define that as up to say 500K in revenue. look, I'm getting the thumbs up already. I must be doing something right, Jon. Then the biggest bucket and the most nebulous to define, I'm calling growth to pre profitability. And that can be a big, big, big, big, big range, as we know.
Jon Blair (07:57)
Yeah.
Got it. Yep.
For
sure. For sure.
Keith Kohler (08:13)
DTC brands with high margins. That's a more compressed one. They have a better chance of getting to profitability because the next stage is break even to profitable and that Again break even can mean some things for some people and other things for others whether it's EBITDA net income trailing 12 run rate That there's there's all kinds of ways to look at that and then there's multi-year profitability
Not surprisingly for a lot of the folks I deal with, and it might be you as well, it's heavily weighted in the earlier stages, right? Lots of people coming through, lots of founders starting up businesses.
Unfortunately, not all of them make it to that bigger level. And in fact, it's a small amount that make it to multi-year profitability. So a lot of the discussion I get to have with founders is that growth in early stage and growth to pre-profitability and often break even to profitable because founders are more often managing to profitability now than ever before. Right. So what are they using the money for? The most common use case for me is Keith, I got to get my product produced.
How am I gonna commit my product produced? Because their cash conversion cycle, which Jon, you probably go up with them, talk about this all the time with them, right? From the time they're laying out that first dollar, till the time it's sold, and happily in the direct to consumer space, that's gonna be more compressed than in retail. But big time. That's it. Yeah, versus, hey, I'm putting up a new fresh marketing email today. I have this list of a thousand people. I have a good sense of my ROAS.
Jon Blair (09:23)
Yep. Yep.
Yeah, where have to wait to get paid, right? 60 days, 90 days, sometimes even longer.
Keith Kohler (09:48)
I know that if I send out one email, probably 100 people will buy. Some people with as little traction as six, nine months a year will have a good predictability on what they can get whenever they reach out to their community or when they're running ad campaigns in some other place. So again, producing their product is the main thing. And here's the pro tip for everybody. Almost everybody starts out with a 50% deposit upfront, 50% before your product ships. If for any reason you can possibly get better deal terms, not just in dollars, but mostly in timing. Some folks, particularly if you have a product that doesn't have a lot of specialty processing or specialty ingredients, like let's say you were making the world's greatest potato chip. Well, that's not hard. What is it? Oil, potatoes, and salt, and maybe seasonings. They probably all have that on hand. So maybe they won't require you to pay the 50% upfront. Maybe you can get away with paying 100% before shipment, or dare I say, if you're really fortunate, having payment terms.
If that happens, that's such a game changer early on. So yeah, so.
Jon Blair (10:50)
totally. People don't, so I even tell brands actually, I think, and I'd be interested to see if you agree with this or that you see the same thing in your experience, but like, I think a lot of brands get hung up on trying to go from like, hit a home run on their terms negotiations, like go from 50 % down, 50 % upon completion to like net 30. I'm like, hey listen, if they say no to that, let's like incrementally make some improvement. Let's work on the deposit first. Even going from a 50% deposit to a 25% deposit can be an absolute game changer. I mean, people don't realize that. And when you model that out, we as CFOs, when you model a change like that, you still have a deposit, but we looked at in our cashflow projections, you have basically half as much money tied up on average in deposits all throughout the year. So whatever that represents.
Keith Kohler (11:18)
That's right. That's right.
I absolutely can.
Jon Blair (11:44)
is money that's in your bank account instead of in your vendor's bank account, right? So yeah, that's huge. One thing I wanna ask you is, and you I know a lot about this because I have a deep debt financing and debt fundraising background, but like I know that when you bring a CPG brand that is say heavier in B2B versus heavier or maybe exclusively DTC, the big difference from an asset stack standpoint is accounts receivable or lack thereof. How do lenders look at the risk of financing accounts receivable versus inventory and what do brand founders need to understand about that?
Keith Kohler (12:19)
That's right. That's right.
Sure. Just very, very tersely, inventory, of course, is inherently more risky than accounts receivable. Accounts receivable means you've issued an invoice, there's some type of promise to pay. Inventory, we don't know, right? We don't know when it's going to sell through or when it's going to, you how quickly you can turn it. We just don't. So, of course, inventory is more risky and therefore on a standalone basis,
Jon Blair (12:39)
Yeah.
Keith Kohler (12:57)
If you were getting financing just on the basis of inventory, you're going to pay a higher price than you would against accounts receivable. And there are some places out there and often this is commercial banks won't do inventory only lines of credit or what we call revolving lines of credit. Cause to be honest with you, they just haven't caught up with the times. And also, yeah, I mean, they still might be living in the 1980s. And it's also true that when they're looking at risk broadly defined,
Jon Blair (13:12)
Yeah, for sure.
I know, I know, it's crazy.
Hahaha
Keith Kohler (13:27)
It may be outside their box or outside their regulatory acceptability or even their bank owners to put themselves in a riskier category. But there's a robust alternative market. I want to go back to one thing, Jon, for a lot of your founders at the earlier stage, financing receivables and inventory really isn't all that relevant. In the beginning, it's more they're going to have Shopify show up in their inbox once they sell $20,000 on their platform.
Jon Blair (13:34)
for sure.
Keith Kohler (13:54)
When they get, and they might have some local folks talking about SBA loans offered by CDFIs, which do happen at the early stage. That's a bit complex. You have to be projections based. This usually have real estate collateral have pretty good credit. There could be local organizations that are helping founders that may have issues somewhere else, such as credit, but they feel that the business has good potential. That's usually a local solution offered by different types of governments or specific organizations in a geography. But mainly what I see our direct-to-consumer companies using is Shopify first, almost all the time. It's easy, it's in your inbox, holy cow, I get the money, let's go. And then they graduate into something a little bit different. Usually at the 250K level, 250 trailing 12 month, Wayflyer shows up, Kickfurther shows up, perhaps some others that are dancing around the direct-to-consumer space.
And all of those I've seen used for product. Now, they're not caring so much about the assets, right, Jon? They're looking at revenue. So these are revenue-based financing models with bespoke payback periods. Bespoke, for everyone's purposes, means custom. They're looking at your data and saying, quick, off of his or her Shopify sales, how quickly can I get paid back? But then it's when you get to the larger levels. When you get in stage two, growth to pre-profitability,
Jon Blair (14:58)
Yep, yep, yep.
Keith Kohler (15:20)
That's when usually AR and inventory take more hold. There are some exceptions. If you're selling to retail and you know you're going to have purchase orders of 5,000 or above, factoring can come in at that early stage. But usually it's in the larger stages when you're talking about larger factoring or even possibly an ABL when you're maybe at about a million in revenue.
Jon Blair (15:43)
Yeah, I see the same thing.
And actually I would say even more broadly, we tend to see revenue based financing or merchant cash advance type structures from, you know, the big three, like the Shopify capitals, the Wayflyer, Clearco. We see that usually brands that are doing up to like even honestly, five or six million a year in revenue. Some of them don't get off of that. A lot of times when they come to us, they should have already graduated.
Keith Kohler (16:07)
Mm-hmm.
Mm-hmm. Mm-hmm. They haven't.
Jon Blair (16:12)
from MCAs or from revenue-based financing, but they haven't, and they haven't been given the advice to do so, right? Yeah, exactly. And where we see, well, I know it's kind of like a drug, it's kind of like a dopamine hit that you press a button and it's like, it's done, Well, and here's the thing, so I think as you, I know you've seen this, like if you...
Keith Kohler (16:20)
Right. Yeah. They often don't know and they're just, they're not aware. And guess what? It's easy. It's easy to keep renewing. Yeah. Yeah. All of a sudden it's right there. Yeah. And now I can go back to what I really love to do.
Jon Blair (16:40)
follow whatever, consume content in any of the various social media channels. There's a lot of people talking about how incredibly expensive revenue-based financing is on an annualized basis. And generally speaking, it tends to be very expensive. But that in and of itself doesn't mean that you should or shouldn't use it. That is a factor to consider, but it's not the only one. And actually, I used to think that MCAs were just always evil because of how expensive they were. But as we started working with more more brands at Free2Go, I started to see like,
Keith Kohler (16:59)
That's right.
Jon Blair (17:10)
No, there is a use for those at times, right? There are stages for them. There maybe is even a short season for them. And I wanna use this to kinda segue into a deeper discussion about like, what I see the biggest challenges for founders in CPG and DTC is like, they latch on to these very simple kind of like heuristics or mental models about like how to think about what to optimize for debt. And oftentimes I see them fall into a trap of like lowest cost of capital is what I should optimize for. Now the problem is with us sitting in the earlier stage, lower to middle market, usually, generally speaking, I would say for us it's at least two thirds of the time, lowest cost of capital options are not the best option for that brand in the season that they're in.
Right? There's many other factors that need to be considered. What are some of the ones that first come to mind about other factors beyond just cost of capital that need to be holistically considered as a founder's trying to figure out what's the best option for debt right now for my brand?
Keith Kohler (18:22)
Yeah, it's a great question because when people are only thinking maybe about interest rate, that can be very limiting, right? The opposite of that, or the one that I try to ask people to focus on is total availability, right? So let's say, Jon, you have 100,000 at 8%, you have 150,000 at 12%, right? What could you do with that extra $50,000, right?
Jon Blair (18:30)
Totally.
Mm.
Keith Kohler (18:50)
If you have a very narrow and quick cash conversion cycle, and or if you light it up when you do an ad campaign and you have tremendous ROAS, in theory, the idea should be who cares what it costs, give me that money. Particularly if your metrics are really banging, and if you have high predictability, if you have good gross margins, if you have a good deal with whoever makes your product. Again, in theory, almost all cases,
Jon Blair (19:06)
Yeah.
Keith Kohler (19:18)
It's about availability, not interest rate. Now, merchant cash advances you alluded to. Again, I tend to avoid them if I can. It is the last resort, but in a pinch, if that's all you got, as long as you are on top of your cash requirements, you know how it's gonna happen, and hopefully you know how you're gonna get out of it. That's a key thing. So, the key thing, the key thing, how are you gonna get out of it?
Jon Blair (19:36)
Totally.
Mm-hmm.
That's actually the most important thing. How are you gonna get it? Because what I see is brands get stuck in it because they're not adequately planning out, they're forecasting their cash flow when they take it. They don't realize that by the time they pay it off or get close to paying it off, they need more capital again. They don't have cash flow from operations to pay it off and be done with it. And so they get on the cycle of just continuously taking the next advance. And that's where it can get.
Keith Kohler (19:48)
Yeah.
That's right.
Yep.
Jon Blair (20:12)
And where I see the challenge, this is another factor to consider, you know, for the founders that are listening is like, one, besides just cost of capital and availability, which Keith just alluded to, is what I call maturity matching, right? It's like the asset that you are financing, the maturity and or payback schedule of the debt that you use to finance it should match the consumption of that asset as much as possible, right? Because when you have a, so I'll give you an example that we saw recently. We saw a merchant cash advance get taken to purchase inventory that if you projected out sales, they were gonna pay that cash advance back in probably two to three months, but they were buying six months of inventory and needed to do so to gear up for the holiday season. So they were financing six months of inventory with a piece of debt that was only gonna last two to three months and if you've forecasted their cash flow, they didn't have sufficient capital after paying off that merchant cash advance to continue financing that inventory purchase. So the maturity matching is like a really, really important concept for founders to understand. Do you see that too?
Keith Kohler (21:19)
Yeah.
100%. Making sure another way of saying that is that the use of proceeds, whatever you're to use the money for, is appropriate. Again, I think it ties back to that larger topic, Jon, is how hard is it for us and for you, who are working with founders on this, to really look at their cash requirements as they move forward with a lot of confidence? And I think my observation is that if you do it not more than, 12 months,
Founders can, that's bite size. Most people can say, okay, I can think that that could be what it looks like. And so I tend to like to go out into the future and then work my way backwards and say, okay, if this is what you need over the next 12 months, what are the right financing products? Recognizing as you're alluding to that it's not one and done, especially for our growth minded folks, the ones going some 500 to 2 million, which is a trajectory I see a lot in DTC.
Jon Blair (22:12)
for sure.
Keith Kohler (22:30)
What we can get at the 500 level might already be refinanced out even before you get to the 2 million. Or can you do more of it? Or wait a minute, what's gonna get stacked in addition? And in fact, that's one of the magical things I try to do. Dare I say it's magic sometimes. Is figure out, yeah, figure out what can stack, what plays well with each other. Sometimes people might think,
Jon Blair (22:36)
Totally.
Keith Kohler (22:56)
Jon like, hey, get Shopify, get Shopify. There's nothing else I can get. Well, that's not true. You can get an SBA loan to go with it. You might be able to get another person in the FinTech. You definitely can get factoring to go with Shopify. So the question is, is like, which of these levers do you pull? Do they all make sense? What's the, not just cost of capital, what's the availability? How's it going to grow your top line and produce more gross profits? So that's really the dance. And more opportunity to have more people at the dance, dare I say, particularly in that growth phase. And a lot of the founders have just incredible missed opportunities because they're not aware. It's also a function of the fact that Shopify can't do SBA loans. They can only sell what they sell.
Jon Blair (23:31)
for sure.
Yeah, for sure. Well, I wanna
dig a little bit deeper into the multi-layered debt stack strategies because this is something that, although I think it's still challenging for founders to think through a single debt product to use, when you're starting to talk about hiring a fractional CFO through us or the service you provide, you're hiring consultants who have...
Keith Kohler (23:50)
Yeah.
Jon Blair (24:07)
We do debt financing day in and day out, right? We know all of the different providers. We understand where they feel comfortable sitting in the collateral stack, meaning like what rights do they have to collateral in the event of a default, right? And so I'm gonna tell a story and I'm sure you have some interesting stories too about something that we did recently for a brand. They had placed a big order for the holidays using a Flexport Capital Inventory Financing, which was basically 90 days float that they were given, right, for a fee. They ended up buying way too much, came out of the holidays and it was clear that they bought way too much. So I sat down and I helped them refinance that into a 12 month term loan, right, that had an amortization that we felt that they could afford with a balloon payment at the end of 12 months. And then on top of that, FlexPort Capital let us take a Shopify capital advance. On top of that, which was unsecured and sat behind them on the collateral stack and they were comfortable with the amount that we took. And so over the next nine to 10 months, we liquidated that inventory little by little and we had several strategies for how to right size that inventory. And 12 months later, we paid off that term loan. The Shopify capital was gone and then we went and refinanced them to an ABL, an inventory.
formula-based ABL, which they can now use with a lot of flexibility going into 2025 and beyond. But had they not had our advice on how to stack debt, they actually maybe would have gone out of business, potentially. But we knew how to bring the right partners in who could get comfortable with the situation and figure out where to put them in the debt stack. So what other thoughts or stories do you have about something similar? Because I'm sure you see things like that plenty.
Keith Kohler (25:55)
Right.
Yeah all the time and I think when you look at that It's hard to expect that a founder unless they have our type of experience would ever know that It's just hard My little shameless self-promotion of my book here CPG financing guide, right? I write about 20 types of debt financing, right and to even understand three or four of them is tremendous and as I said
Jon Blair (26:14)
for sure.
Keith Kohler (26:30)
each of these 20 types per se, they can't do any of the other types except with rare exception. So they're not going to be able to tell you, an SBA lender is not going to say, hey, Jon, what I really think you should go get is a Shopify loan because that's going to supplement mine. It'll help you do that. No, they're not equipped to do that. And newsflash, most of them don't want you taking on additional debt because it elevates their risk or their perceived notion of risk. A downside thinking versus the other side, which is, wait a minute,
Jon Blair (26:55)
for sure.
Keith Kohler (27:00)
If my founder gets more capital, she can grow her business more. And then actually it lowers my risk. But I guarantee you, no one's having that conversation. it's up for us to introduce that and to coach people to say, because a lot of times when they sign a contract, it says, you can't go out and get any other debt financing unless you tell us. Right? How many founders actually tell them? Well, small percentage. I'm not signing that deal, but they could get
Jon Blair (27:09)
For sure, for sure.
Yeah, yeah.
Hahaha
Keith Kohler (27:30)
shot down, but the nature of the conversation has to be no, I need it for growth. It'll do this for me. You're gonna be in a better spot. I'll be better able to pay down my debt. Anyway, that's a very nuanced discussion, but broadly what I see, Jon, is now that founders are more interested in a capital efficiency, moving towards breakeven to profitable, usually if I have a company that I'm talking to, and most of them fit into this, who think that at least by 2026, I'll be profitable. Now I'm not talking about my super early stage folks, but in the growth stage, right? If they're 500K right now and they think they can make it through the year be a million and next year be two million, if they're direct to consumer brand, there's a good chance they could eke out profitability. So if we go two years into the future, the best cheapest cost of capital with good availability is an SBA 7A loan.
Jon Blair (28:06)
Yep. Yep.
Keith Kohler (28:27)
And that's one year profitable on a filed business tax return. Can't stress that enough. It's not trailing 12 month. It's not run rate. It's filed business tax return. So in that example, and I've got a lot of them on that path, if they're profitable in 26 and they have say $150K in profitability based on current interest rates, their loan can be as high as $900,000 based on ability to pay it back.
Based on cash flow, collateral is a whole different thing and we don't have enough time to go through all of that. But there can be uncollateralized exposure. But the bottom line is, if that's the right combination, how do we get from here to there? And how do we keep ratcheting availability and interest rate? So for most people, until they get to that term loan time, they're looking at some combination of all the things we talked about, right? So.
Jon Blair (29:05)
Yeah, yeah, yeah.
Totally.
Keith Kohler (29:20)
Factoring sometimes also against AR sometimes also with an inventory component on the retail side on the DTC side Shopify again and again and again and again often PayPal sometimes Wayflyer sometimes Kickfuther. That's usually the mix of all the usual suspects I see I will add one last thing to the mix is that given that equity is still not as a lot of times people who got angel money
or friends and family money might go back to them and ask for some type of private debt financing style instrument as if it were an institution to be refinanced out in the future. Because SBA loans, of the acceptable uses is refinancing debt.
Jon Blair (30:04)
We did that at Guardian Bikes at one point. We went to our shareholders, which was largely angel investors, and we pieced together a couple million dollars in an interest only loan over, it had like a two or three year term, and we ended up refi-ing that. We looked at refi-ing it with a SBA loan, we ended up refi-ing it with an ABL because at that time we had reached eight figures in revenue and profitability in the ABL.
Keith Kohler (30:11)
Yeah.
Mmm.
Jon Blair (30:34)
was gonna fit our needs the best at that time. So there's a couple things that I just took note of as you were chatting. So we were talking about what are the other holistic factors to consider besides, there's the obvious interest rate, cost of capital, availability, you cited lenders that can grow with you, right? Or at least that's huge, right? Especially for us, it's like, if you don't have to go to another lender, right? A year out.
Keith Kohler (30:36)
Yeah, that's great. Yeah.
Big, big time.
Jon Blair (31:03)
or two years
Keith Kohler (31:04)
Right.
Jon Blair (31:04)
out, or even worse, man, I've been in situations where it's like, we're midterm, we're not even at the end of a 12 month term, and we're like, this is not working. It's not working for us, it's hamstringing our growth, it doesn't work for the lender, and like figuring out how to get out of that, so like, knowing a lender can grow with you, and again, utilizing someone like Keith's services, or working with a fractional CFO, you know,
We're the kinds of people that have experience working with these various lenders and we've seen the deals that they've done in the past we've seen them grow with other brands and I've even seen like I know a few ABL lenders that I'll say hey look They'll tell you they won't do in transit financing and right they won't they won't give you in transit on a regular basis But I know that if we talk to them, they'll give it to us one time or twice Just to get the initial inventory buildup. Right? And so the point I'm making is
We can help, guys like Keith, firms like Free to Grow can help you to actually get more mileage out of your debt partners than you could otherwise. Because like Keith mentioned, they're not, they're probably, the lender probably isn't going to pitch the strategy to you. They'll tell you what fits their credit box based on their underwriting. They'll say this is what we can offer you. You gotta ask them.
for more, but know why you're asking it and how to justify it, right? So this actually brings me to another question that I have for you, which is like, when you're going to a lender to ask for something, above and beyond what they're offering, what are some pieces of advice that you can offer about how to go about having those conversations and how to justify your asks?
Keith Kohler (32:51)
Yeah, going back to what you said at the top of the comments, there are cases where, again, we're calling it, a credit box, right? These are, for our listeners, what that essentially means is what are the rules of engagement? What can they do within their standards that are either set by themselves, by their thesis, if they're backed by investors, by the banks who give them warehouse lines, with SBA loans, by the SBA SOP? So everybody has to color within the lines.
for some amount, right? Or some amount of time. The question is, is how do you get what we often call policy exceptions? How do you get them to look at you differently? And it's not easy. But when you think of all the levels of strength that someone can show, clearly it has to begin with the financials. So if the financials themselves are not clean and accurate, that's one thing. But secondly is,
Maybe when a founder has a conversation, they know that they're not, they're putting their best foot forward. If you've just came off of a season and it's not a good season for you, you have to have them look at it, not just in the last three months. It's our responsibility to say, it's seasonally that way. It's always that way. Let me show you prior years. I am actually really strong. So one way is helping people look at the timeframe in which they get to see you. It's not like right now.
Jon Blair (34:09)
Yep.
Keith Kohler (34:18)
If it's only right now, which is what a lot of lenders base their decision on, you need to know when the best right now is. If it's like SBA lending and they're three years in the past, mainly, well, 23 was rotten because I lost, in other words, controlling the narrative based on the timeframe is super critical. And a lot of founders miss out on the opportunity, particularly in the fintech world, which is very algorithmic based, to sell their future.
Jon Blair (34:24)
for
For sure
Keith Kohler (34:47)
So Jon, again, if you have Jon's pizza company and you did 500K last year and you had a ton of losses, why? Because you spent money investing and you did this and that and the other thing, and it just shows up at the expense of it looks like loss versus investment, it's our responsibility and your responsibility to sell that, well no, wait a minute, that was investment, and it's that dance between where have I been and where am I going? yeah, yeah.
Jon Blair (35:09)
I love that, no it's so true. like,
so the other thing that goes alongside this that I always tell founders is like, hey we need to show clearly in the projections how we're gonna pay them back, right? Debt needs to be paid back. So we can't just say, hey we have this collateral base that you're willing to collateralize the loan through, but how is, how,
how are we gonna generate cash flow to service the debt? And showing that in the projections and then like you said, telling the story of like, well how are we doing this? Well, these are the assumptions behind this. This is where we're spending ad dollars, this is the return on those ad dollars, these are the overhead costs we're cutting, this is what, know, and like when you go through the level of the detail in your projections to show them how you're gonna pay them back, but tell them the steps that you're taking, the actions that you're taking.
Keith Kohler (35:43)
That's right. That's right.
Yeah, yeah, yeah, yeah.
Yeah.
Jon Blair (36:08)
That gives
lenders a lot of like peace of mind that like that this this business is being run well from a planning perspective which can allow them to go the extra mile on how they structure your loan. I've seen that time and time again.
Keith Kohler (36:23)
Yeah, it's really true. And not everybody has the opportunity to make that sales pitch, but I think for our founders, it's really, you kind of need to insist upon it. Particularly if you know the future is bright moving forward, get in there and say, hey, I'd love to share 10 minutes with you of my growth story and how we're getting stronger. Use the words that make sense.
Jon Blair (36:32)
Yeah.
Keith Kohler (36:47)
we're gonna be more profitable, we're increasing our top line, our metrics are stronger and they'll get better. All those things that contribute to an underwriter, because remember I think a big distinction, there are business development officers and then there's underwriters in credit. Not the same people. You have yes, yes, yes and no, no, no, right? And they often conflict, they're not allowed to unduly influence each other. They're just not allowed to.
Jon Blair (37:01)
For sure, not the same people.
Keith Kohler (37:14)
and they have to stand alone. So the business development offers bringing deals in, but it's ultimately credit. And we may or may not have access to that person. And sometimes we won't even have a call with him or her or the team. So the narrative, how you present yourself in writing. As you said, Jon, it's great to send a bunch of projections, but truly they're looking at the assumptions.
The assumptions are the most critical part because the projections are going to be wrong. We just know that. But if the assumptions, the assumptions look fantastic with thoughtful analysis, detailed, dare I say, correct grammar and spelling and all those good things that matter to people or don't, but put your best face forward. And if there is uncertainty, talk about it. Hey, we think this is how it could be. Sure, this could happen, that could happen, but it's kind of like.
Jon Blair (37:43)
for sure.
Keith Kohler (38:06)
dare I say controlling the way they look at you. Because they're comparing you to the big wide world out there, they have to. They're comparing you people in your sector, in your geography, and those other people might be horrible or rotten or had bad results. Well, you have to prove that you're the outlier who can essentially at the end of the day, pay it back.
Jon Blair (38:25)
Yeah, well, and
you have to, if you don't help them draw the conclusions that they should draw, they'll just draw their own, right? And you can't blame them as an underwriter. They're analyzing all kinds of businesses all day long, right? And so it's very easy to miss the context or the assumptions or the drivers or the actions or the strategy. And so it's actually interesting. The last question I wanna ask actually is like, if a brand is ready to go like pitch,
Keith Kohler (38:29)
That's right. Correct there will. That's right. No, at all.
Right.
Yeah.
Jon Blair (38:54)
a lender or go look for debt. We're not talking about the MCAs where you just click a button and you've got the, but like actually go through an underwriting process with a lender. What are kind of the major things they need to have ready in terms of diligence items to at the very least get conversations started and maybe even just get a term sheet.
Keith Kohler (39:12)
I'd say broadly the most important thing is clean and accurate data. I can't stress that enough and Jon you've inherited a lot of things where you go holy cow, right? Yeah, and again, this is not a fault of founders. I'm not blaming founders for this Well, sometimes they get the blame but a lot of times it's ignorance They're not aware of what might be what a true a clean and accurate Financial statement looks like and and we understand that we know it's not necessarily one even one the top ten things you like
Jon Blair (39:32)
Totally.
Keith Kohler (39:42)
to do. That said, if you know it's not for you, get the help to make sure that you can at least have accurate and clean proper categorized financials, proper organized, right? What goes into a stack of documents that you would have to have ready? I'll use the SBA example because that's the most extensive one and then you can cut from there, right? If it's SBA, here we are February 24th, they're going to want the last three years tax returns.
So 22, 23, 24, if you have it. If you don't, take 21. Just even go back and make sure they're correct. I can't tell you how many times I found mistakes in tax returns. And it's often just because founders don't review them. But remember, you're the one signing it. That's a key thing. Interim financial statements, year end 24. Again, this is time of year, making sure that they line up. You know what I suggest too, Jon, is do it month by month.
Jon Blair (40:36)
Yeah, for sure.
Keith Kohler (40:37)
like have all 12 columns of 24, the reason being if there are seasonalities or if there was something that happened that's an event, it makes it easy to explain it and point it out. So month by month 24. And then other things could be based upon the type of financing you go for, an aging AR report. We care that eligible ARs that aged 90 days or less, age more than 90 days, it's ineligible.
Jon Blair (40:47)
Totally, totally.
Mm-hmm.
Keith Kohler (41:05)
Aging AP, if AP is aged over 90 days, so what's the question? Why are they not paying that person? So those all tell a story. Cash flow model maybe and projections maybe for some uses not always as a starting point But I think just making sure that hey if you from an outsider were looking at this company Would you deem it to be healthy?
Jon Blair (41:28)
For sure, for sure. Yeah, and so like the important thing that you're drawing out here, Keith, is that the P&L's important because you have to understand profitability, but the AR and the AP tell a story about your cash flow health. It actually doesn't tell the complete, some lenders will also ask for like an inventory listing and if you have it, the aging of your inventory. And what are they basically doing? They're basically going.
Keith Kohler (41:47)
Yes, of course.
Jon Blair (41:51)
What are your AR days? What are your AP days? What are your inventory days? That's the cash conversion cycle. Those are all the numbers you need for your cash conversion cycle. So they're going, here's your P &L, but then let me see how you're managing the balance sheet, right? So that they can understand cash flow. And so the important thing is having the right people helping prepare your books and this data. I mean, that's a key thing that we do at Free to Grow. We have two services. It's the accounting and bookkeeping service, which is a solid P &L and a balance sheet.
which lenders need both, right, to assess both profit and cash flow. And then the CFO service is more the forward-looking strategy. And so both of those things are really important, but you can't even do the CFO service or go out for debt financing or debt raise if you don't have the foundation right, which is the bookkeeping and the accounting, right? So unfortunately, we have to land the plane. I wanna come on your podcast for sure, and I might need to have you back to talk about all the things we didn't get to.
Keith Kohler (42:39)
Absolutely true.
Okay.
Jon Blair (42:48)
But before we do, I always like to ask a fun question at the end. my question to you is, what's a little known fact about Keith that you think people might find shocking or surprising?
Keith Kohler (43:00)
Well, how about that? I've performed on both the Carnegie Hall stage and at the Vatican.
Jon Blair (43:07)
That's awesome, man.
Keith Kohler (43:08)
as part of a combined choir and one of the recordings charted on the billboard's classical charts.
Jon Blair (43:15)
That is so rad. I'm a musician whenever, sometimes the guests will turn around at me and say, hey, what's the shocking or surprising thing about you? I started a thrash metal band in business school with a bunch of business school friends and we got signed to a record label back in 2010, was it? 2009, 2010? Fate's Demise, check out Fate's Demise. There are videos.
Keith Kohler (43:37)
Where are the videos, Jon? I gotta see them.
We're down
with that. Financing and fate's demise, they go perfect together.
Jon Blair (43:45)
Yeah.
So, but yeah, man, this conversation was awesome. do, man, I think we gotta have you back, because we only like scratch the surface. here's what I want everyone to.
Keith Kohler (43:55)
Yeah, and we can go very deep
on specific uses and types of loans and all kinds of things.
Jon Blair (44:01)
Yeah, I think we should definitely do that, because it's important stuff for founders of consumer goods brands. If there's one takeaway that I want everyone to have, it's that there are tons of options out there, right? Navigating them is not as simple as just finding what's the cheapest product or has the most availability. There's multiple factors, and like Keith mentioned, debt financing is not a point in time, like we close the deal, we're good. It's a continuous journey.
Keith Kohler (44:17)
It's not.
Jon Blair (44:30)
Do we always have the capital stack we need to reach our goals and to achieve our strategic objectives? And so, I highly recommend, if you have any questions about debt or you're thinking about getting some for your brand, reach out to Keith. Keith, where can people find more information about you and K2 financing?
Keith Kohler (44:49)
Yeah, one of the best ways to reach out is through LinkedIn @KeithKohler1 And then also I have a website, financingman.com and k2financing.com, several right now. But I'd say start with LinkedIn, that's always the best place.
Jon Blair (45:03)
and get The CPG Financing Guide. How can people get that?
Keith Kohler (45:07)
if they just reach out to me, I'll send them a PDF copy.
Jon Blair (45:10)
Love it, definitely, definitely do that. Well Keith, I appreciate you coming on. I definitely think we gotta have you back. This was a super insightful conversation. Yeah man, and look, don't forget everyone, if you want other helpful tips on scaling your profit-focused DTC brand, consider giving me a follow, Jon Blair, on LinkedIn. And if you're interested in learning more about how our Free to Grow DTC accountants and fractional CFOs can help your brand increase profit and cash flow as you scale,
Keith Kohler (45:17)
Thank you, Jon, for this pleasure being with you.
Jon Blair (45:38)
check us out at freetogrowcfo.com and until next time, scale on. Thanks Keith.
Keith Kohler (45:45)
My pleasure, Jon. See you all soon.
