Small Business Financing: To Debt, or Not to Debt?
Finding the right small business financing solution for your growing business is critical. Is going into debt the right option for you? Debt exposes your business to risk, but not taking the leap and financing a growth project for your business could be just as risky. On this week’s The Money Show with Bruce Whitfield, Pavlo Phitidis talks us through when it’s appropriate to borrow money to stimulate your growing business:
Small business financing tools are important, because you may need to access them to survive, or thrive, depending on your business’ circumstances. There are two main types of tools you can use:
- Funding: Is a long-term commitment, that’s used for projects and to stimulate business growth.
- Financing: Is a short-term solution that’s used to acquire assets, equipment, or to cater for specific activities.
You can access these small business financing tools through debt or equity agreements:
- Debt: You borrow money against certain assets or collateral and agree to adhere to certain terms and conditions, that govern how you will pay back the money you have borrowed.
- Equity: You give up, or sell, shares in your business to a funder, who is interested in supporting the growth of your business. Equity funding is best suited for growth projects.
When you are considering debt funding as a small business financing move, there are important things to consider:
- The life stage of your business – In the early stages of growing your business, it may easier for you to access debt facilities, owing to your background, financial track record, or previous career. Moreover, utilising debt to jumpstart your business may be a necessity. In the early stages of your business, it may feel easier to give away equity, but in the later stages of your business journey, it can be more difficult, and possibly more contentious. As your business grows, it becomes easier to access debt agreements.
- The application of funds – What will you use this borrowed money for? Match the money you need to borrow with specific tasks, activities, or projects.
- The costs associated with the debt – What interest rate will apply to this loan? What are the administrative costs associated with this loan?
- The larger economic environment and your sector or industry – How is the economy looking right now, and what’s projected for the next few years? Is your sector or industry thriving, or is it still coming to the fore?
Advantages of Debt Financing
There are some significant advantages to using debt as a small business financing tool:
- Your business remains entirely your own, as you’ve not had to give away any equity to access the finance you need. Your management team can continue as it has, without interference from an outside funder.
- Interest payments are tax-deductible, and your business pays less tax too.
- Debt financing helps you build your business’ credit score, which will help you to access further debt if you require them.
- It creates a disciplined approach to your financing, as you’re committed to seeing a growth project through to its success.
The Amount of Money you Borrow
How much money is enough? You’ll need to know this before you approach a potential funder or consider a debt agreement. The money you need to borrow must be applicable to a certain project, or asset, and be enough to cover what you need for it. Going back for more later, will lead to your funder losing faith in you, or your growing business.
The Obligations of your Debt Agreement
Debt agreements aren’t easy small business financing tools. The obligations attached to servicing debt are highly important, and you’ll need to ensure that it’s paid back correctly and timeously. The capital loan amount, and interest, must be repaid, or else you may lose assets or your good reputation, should you default on payments.
Collateral for your Debt Agreement
If you’re able to provide collateral for your debt, that’s great. Alternatively, a guarantor, who will stand surety for your loan with the bank may be extremely helpful in this instance. Other forms of collateral include your business’ assets, equipment, stock, real estate, insurance policies or savings. You may even be able to use your customer base as collateral, demonstrating your growing business’ ability to continue serving your customers through long-term contracts, that assure you of your long-term growth.
Finding the right kind of money to grow your business can be tricky. Let Aurik help, and we’ll help you build your business into an asset of value.