Investing in a clothing line 2

I don’t get many valid questions about getting financing for a clothing line. Most inquiries are how to find investors (consisting of one paragraph explaining how talented and creative they are) or the occasional stray query from someone who wants to sell their designs to a manufacturer or even, how they can use their design sketches as collateral for a loan from investors or a bank. Really. The question on loans I got the other day wasn’t bad and gives me an opening for a type of financing that may work out well depending on the goals of each party.

This question comes from an attorney who had a sideline (hobby as he describes it) selling small runs of tees, hoodies and hats which he sold to NYC boutiques. He sold all the goods but says he “sorta just broke even”. Now he’s interested in making a higher end product complete with pattern making and production rather than using blanks. This is where the loan comes in.

A friend of mine said ‘Look, make samples, and get orders. Once you get the orders, I will fund you.” Is this a good idea? What sort of ROI or profit split is typical in this scenario? I’m not looking to make money off the bat, I know it will be better to get our name out there, and worry about bigger ticket items, outerwear, etc in a few years. Is there any advice you can give me?

In my opinion, if you want to retain equity and management control in your company, you’re better off considering loans in the context of purchase order financing (pg.184). You borrow a fixed amount based on the costs of production to include materials and labor for a fixed period of time. Probably the best source for these loans are banks, assuming you’re a good credit risk. Some people describe PO financing as factoring but it’s really not the same thing (related links at close). Anything else amounts to a partnership of some kind which is a mixed bag. For example, this related anecdote is structured as a loan but amounts to a partnership and ownership in the venture:

We have some friends, an older couple, that are pretty wealthy. We never asked them to invest in our clothing line, but they wanted to. Unfortunately, their terms weren’t agreeable to us. They wanted to give us $50,000 to start which is wayyyyy more than we need, so I would NOT have agreed to that to begin with. In return they wanted 15% of gross sales for our new line, and another 10% of our current business. “Forever” is a long time, and under their terms there was no point at which they would stop getting a return on their investment. It was to be permanent for as long as the company exists, or as long as they’re both living. Valerie told me there’s an industry standard for investors and she gave us a break down on what their return on their investment should be. It wasn’t nearly as much as they wanted. We offered that amount to them and they weren’t interested. Said it would take too long to get a return on their investment. They are both in their sixties, so I certainly can understand.

Valerie (my evil twin) basically said it depends on what you have to work with. If you’re penniless and an angel investor wants a piece, it’ll be up to 51% (I know someone who got a venture capitalist and had to sign over 70%). If you have something to work with, meaning you have the money to produce your samples and take orders, then you’re better off securing a loan just for production. For longer term loans, she said there’s no fixed standard but that it is more typical to assign a payback of 25%-30% of sales until the principal of the loan is paid off. Then, the investor realizes their profit based on a sliding scale, a decreasing percentage of monthly net sales. Valerie is the one to talk to if you’re interested in attracting big money; she’ll get you prepared for that step.

Personally, I don’t like debt; the longer you owe someone money, the longer they own a piece of you. In the case of the attorney I opened with, I can only say what I would do. I would borrow the money for a fixed rate of interest, for a set period of time and pay it off in chunks as soon as I received payment from my accounts (at delivery). I would structure each minimum payment (presumably weekly till it was paid off) to be based on the production costs of that lot plus interest. I wouldn’t carry the debt into the next season. The next season I’d do it all over again, securing a loan if I had to. I’d prefer to pull the profit from the first season and plow it into the second to avoid a loan or were a loan unavoidable, use the first season’s profit to offset the cost of the next year’s production, reducing the amount of money I’d need to borrow. Obviously, I’d be starting small and increasing incrementally but the way I look at it is, mistakes will be made. Smaller lots = smaller liability. I wouldn’t be able to absorb a large mistake on a large lot at the outset. That’s just me. I don’t like risk.

Of course there’s more to it but these related links will provide more detail.

Related entries:
Don’t borrow money to start a clothing line
How to find investors for a clothing line pt.1
Investing in a clothing line
Why contractors won’t partner with you
Factoring invoices: Financing a fashion line
ADHD dump: factoring
ADHD dump: factoring 2

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