Working Capital Line of Credit vs. Term Loan: Matching the Structure to Your Cash Cycle

A company with a recurring 90-day cash gap and a company funding an 18-month expansion both need working capital. They do not need the same facility. The first one needs capital that appears and disappears with the cash cycle. The second needs capital that stays in the business long enough for the investment to produce a return.

When those two situations get financed with the same instrument, the cost shows up quietly — as interest paid on money sitting idle in an operating account, or as a facility that runs out halfway through a build. This is a structure decision, and it is worth more than a rate negotiation.

The cash cycle mismatch

Start with the question the structure has to answer: how long is the money gone? Your cash conversion cycle — days of inventory, plus days of receivables, minus days of payables — tells you how long a dollar leaves the business before it comes back. For a distributor running 45 days of inventory, 50 days of receivables, and 30 days of payables, that is a 65-day round trip. The gap is real, but it closes on its own.

A revolving line matches that shape. You draw when inventory goes out the door, you pay it down when the receivable lands, and you pay interest only on the days the balance is outstanding. A term loan does not match it. A term loan funds once, in full, and then amortizes on a fixed schedule regardless of whether the cash is still deployed.

The reverse is also true, and it is the more expensive mistake. Funding a two-year capacity expansion off a revolving line means the facility comes up for annual renewal in the middle of the investment, at a moment when the trailing financials look their worst. Permanent needs want committed, term capital.

Line of credit vs. working capital term loan

Two lines in that table decide most of the outcome: interest basis and re-draw. A revolver's cost tracks usage; a term loan's cost tracks time. If your need is intermittent, usage-based pricing wins by a wide margin. If your need is continuous, the certainty of committed term capital is worth the extra carry.

Worked example: a $750,000 seasonal gap

A specialty distributor builds inventory each spring, peaks in summer, and collects through early fall. The gap runs roughly $750,000 for about 90 days a year. Assume the same 11% nominal rate on both structures so the comparison isolates structure, not pricing.

• Term loan, $750,000 over 36 months at 11%: payment of roughly $24,550 per month, with about $71,500 of interest in year one and roughly $134,000 over the full three years. Critically, the cash is only needed for 90 days — for the other nine months of each year the balance sits in an operating account earning far less than 11%.
• $1,000,000 revolving line, $750,000 drawn for 90 days at 11%: about $20,340 of interest, plus a 1.0% facility fee of $10,000 at close and an unused-line fee near $2,350 — roughly $32,700 all-in for year one, and about $78,000 across three years once the one-time facility fee is behind you.

Same rate, same amount, same business. The revolving structure costs roughly $39,000 less in year one because the company only pays for the days it actually has the money. The gap widens every year the facility renews without a new origination fee.

When the term loan is the right answer

Flip the facts. The same distributor signs a national account that requires a second warehouse, $750,000 of upfront fit-out and staffing, and 18 months before the contract is fully ramped. Now the money is gone for six quarters, not one. A revolver would carry a near-permanent balance through an annual renewal, and a lender looking at a fully drawn line at renewal will often reduce it — precisely when reduction is most damaging. A 48-month term loan removes the renewal risk and matches amortization to the ramp. The higher interest cost is buying certainty, and here that certainty is worth paying for.

What capital sources actually underwrite

Revolvers and term loans are underwritten against different evidence, which is why the same company can be approved for one and declined for the other.

• For a revolving line: the quality of the collateral that backs the draws. Receivable aging, customer concentration, dilution and credit memo history, and inventory turns. A borrowing base built on receivables under 60 days old, spread across a diversified customer list, supports a materially larger advance than the same dollar amount concentrated in two slow-paying accounts.
• For a working capital term loan: the durability of the cash flow that services fixed payments. Trailing twelve-month EBITDA, debt service coverage (most non-bank sources want 1.25x or better after the new facility), gross margin stability, and whether the use of proceeds plausibly produces the incremental cash flow the model assumes.

One practical note: many bank facilities carry covenant packages that restrict additional indebtedness, liens, and distributions. Layering a second facility on top of an existing bank agreement without checking the negative covenants is how a clean transaction turns into a default notice. That review belongs at the front of the process, not at closing.

How we approach it

Tzortzis Capital is a capital placement partner, not a lender. On a working capital file we start with the cash conversion cycle and the use of proceeds, decide whether the need is intermittent or continuous, and only then identify the sources whose appetite fits — revolving lines of credit, working capital facilities, invoice factoring where the gap is receivable-driven, or equipment financing where the spend is an asset purchase. Then we run one controlled process to a signed term sheet rather than shopping the file broadly, which erodes pricing and signals distress.

If you are weighing a line against a term facility, start a conversation. We will map the structure to your cash cycle and give you a realistic size, rate, and covenant range before anyone pulls a file.