Last Updated on December 8, 2017 by Tim
Finding a viable source of financing for your company can be tricky business. Things like the industry, age and profitability of your company will determine its eligibility for certain types of funding. To jump start your search, here are 5 sources of financing for small businesses:
How To Get A Small Business Loan
1. Purchase Order Financing
Purchase order financing is a popular choice for many growing businesses such as wholesalers or manufacturers. It is particularly useful for companies that need financing to purchase the goods or raw materials needed to fulfill customer orders, but lack working capital. These businesses often suffer from poor cash flow because they do not receive payment until orders are filled. While PO financing is very convenient for short-term financing needs, it can quickly get expensive. Rates range from 3% to 5% each month on average, making it less than ideal for long-term financing.
2. Bank Loan
While bank loans are the ideal financing option for most business owners, many small or new businesses cannot qualify for a standard bank loan. During the economic downturn, many banks tightened their lending standards. Tougher lending standards along with a very small profit margin make small business loans an unworthy investment for big banks. When these loans do well, banks can expect a small margin of profit ranging from 1-2% on average.
Alternatively, if just one small business loan goes bad, it can impact the total profitability of the bank. For this reason, many banks are reluctant to approve loans for small businesses that do not meet all of their lending criteria.
Here are some of the most common reasons that banks deny small businesses loans:
- A business is not yet profitable
- The business lacks a tangible collateral
- A business has been operating for less than 3 years
- The person that owns the business has bad personal credit
- A number of industry-specific risks
These are just a few of the many reasons that a small business may be denied for a loan.
Factoring is one of the most convenient types of financing for companies utilizing the business-to-business (B2B) model. This method involves using receivables as leverage to gain access to working capital. Unlike bank financing, there are no restrictive criteria that prevent new or small businesses from participating. Business owners with bad credit may find this funding mechanism particularly useful. Many factoring companies are bank-owned or affiliated. Factoring can be a good option for companies that have receivables. For more information about factoring, visit http://factoringcompanies.com.
4. Asset-based Lending (ABL)
Asset-based lending involves using inventory and receivables as collateral. It is essentially an asset-based line of credit that is secured by something your business owns. Many small businesses find it difficult to obtain this type of loan because it is more involved than a traditional bank loan. Similarly, many lenders are not interested in asset-based deals because of the small profit margin and the level of difficulty required to monitor these loans. Similar to a bank loan, asset-based loans typically come with stringent lending criteria. For more information about factoring, visit https://www.entrepreneur.com.
Equity is another solid option for small businesses that cannot afford to incur more debt. While this funding source is very difficult to obtain, it can provide a great way to build credibility and develop long-term relationships. Equity financing typically involves giving up partial ownership or control in exchange for access to the investor’s network. Investors usually take a long-term approach to getting a return on the loan. Once an investor has a stake in your company, it can be difficult to terminate that relationship.
Many successful companies utilize some, if not all, of these methods at some point. During the first two years, many companies are not bankable so factoring, ABL financing or purchase orders might be their best bet. Even once a business becomes bankable, you may find that the terms of a bank loan do not work for your business. Over time, when the growth of your business begins to exceed your cash flow, you may find it difficult to obtain a line increase from a bank. In any of these situations, factoring or purchase order financing can provide short-term solutions to meet your cash-flow needs. If your business has solid financials, you may find success with an alternative lender. These lenders price risk differently and are able to offer more flexible rates.