Loans are a great option to fuel business growth, but debt is a scary word. Because of that, lots of people end up chasing equity investment, even though it ends up being much more expensive if the business works.
Why Borrow? Debt financing from the right partner can unlock opportunities without forcing you to give away a piece of your business, and it's usually the best way to finance shorter-term growth opportunities.
What are the other options for outside financing? Equity investment (costs a piece of your business and a piece of your control of it), grants (which are highly competitive, tied to specific timelines, and often come with a restrictive use of funds requirement), and crowdfunding (which is a huge marketing lift, and fails to meet the goal over 80% of the time).
Let's break down debt: Not all loans are created equal, and choosing the right one requires careful consideration. In this post, we'll run through a few different loan types and shed light on why a certain loan might not fit every business.
- Term Loans: Term loans are a popular type of business loan where a fixed amount is borrowed and repaid over a predetermined period, typically with regular installments. They can be secured or unsecured, with interest rates and terms varying based on factors such as creditworthiness, collateral, and the loan amount. Term loans are suitable for various purposes, including equipment purchases, real estate, or general working capital. However, they may not be ideal for startups or businesses with uncertain cash flows, as regular fixed payments can strain finances during lean periods.
- Line of Credit: A line of credit functions like a revolving credit account, allowing businesses to borrow funds up to a predetermined limit as needed. Interest is only charged on the amount borrowed, offering flexibility and convenience. Lines of credit are particularly useful for managing cash flow fluctuations, covering short-term expenses, and taking advantage of immediate opportunities. However, they may not provide substantial capital for long-term investments and typically require a solid credit history and financial track record. Credit Cards are a common small LOC product.
- SBA Loans: Small Business Administration (SBA) loans are government-backed loans designed to support small businesses. They offer favorable terms and longer repayment periods, making them attractive to businesses that may not qualify for traditional bank loans. SBA loans can be used for various purposes, such as working capital, purchasing equipment, or acquiring real estate. However, the application process can be lengthy and requires extensive documentation and compliance with specific eligibility criteria.
- Equipment Financing: Businesses in need of purchasing or upgrading equipment can opt for equipment financing loans. These loans are secured by the equipment being financed, reducing the lender's risk. Equipment financing offers fixed interest rates, flexible repayment terms, and can conserve working capital by allowing businesses to spread the cost of equipment over its useful life. However, this type of loan may not be suitable for businesses that require funding for other purposes unrelated to equipment acquisition.
- Invoice Financing: Invoice financing, also known as accounts receivable financing, allows businesses to access capital by using unpaid customer invoices as collateral. Lenders advance a percentage of the outstanding invoices' value, which is repaid when customers settle their bills. Invoice financing helps improve cash flow by providing immediate access to funds that would otherwise be tied up in accounts receivable. However, it may not be suitable for businesses without consistent invoicing or reliable customer payment terms. Important note, this is less a loan than the sale of an asset (your invoice) in exchange for a percentage of it's value.
Other loan types like Purchase Order Financing, Revenue-based Financing, and Cash Advances might also work for you, and we have options in all of those categories. Our Bodega Funding Plans go in-depth on your top loan types, key criteria and requirements, and how the loan would work for your business.
If you need help figuring out which loans your business needs, get your Funding Plan here.
We hope you found this guide helpful. If you have any questions or additional insights to share, please leave a comment below.
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