Small Business Financing is a topic that most small businesses will need to tackle at some stage. Let me be clear at the outset. Requiring small business financing ts not a mark of failure of success. Funds can be required to fund growth just as easily as funds are needed to tide over a rough period.
There are many ways in which small business financing can be achieved. But there are costs, risks and benefits associated with each. The common denominator of each is that the provider of Small Business Financing will require a return on his investment and will also want to be able to foresee a way in which they can get their money back in the longer term.
It is not really the purpose of this blog to list all the sources of funds but in brief small business financing take a number of forms with a variety of potential lenders / investors.I will just touch on three here.
- Loans can be unsecured or secured against collateral of some sort (including personal asses, future sales or inventory). Unsecured loans tend to carry a higher rate of interest. The lender is only really interested in the rate of return and the security for the loan, and if satisfied by that does not overly worry about business performance.
- Royalty Agreements give up a percentage of the sales value (either for a fixed period or in perpetuity) in return for a lump sum. In this case it is in the Royalty Owners best interest to help stimulate sales.
- Equity can be given up in return for funds. This can dilute control, but your new equity partner will have a vested interest in the business, though will also need to be confident that there is a potential exit strategy to get their investment back as their return is largely based on capital gain on selling the business in one form or another.
There are clearly many more avenues, and many hybrid versions to consider.
But, and this is a big But, before embarking on any form of small business financing there are a few questions that need to be resolved:
- Have you got a clear strategy for your business that demonstrates the need for additional small business financing?
- What do you need the money for?
- Do you really need a loan at all? Are there other ways to free up working capital in the business?
- What is the current financial shape of your business?
Again this is not an exhaustive list, but these factors need to be thought through.
Now I have to admit that I have a vested interest in this blog!! At JHA we very rarely take an equity share in a business, but we frequently help with the discussions above. Let me give you one interesting perspective. In about 25% of the businesses we advise we mutually determine that the businesses does not need a loan at all. There are other efficiencies or initiatives that can be found or undertaken that free up cash for other purposes.
In a nutshell this is our advice:
Before determining how or where to get a loan or some form of small business financing consider first whether you can demonstrate a real need for the financing and also whether you have exhausted all the internal opportunities you have for reducing costs and working capital and increasing efficiency and revenues.