Starting and growing a business can be an immensely rewarding process — one that rewards you both psychologically and financially.
However, it’s also an expensive one. From moving into your premises to purchasing inventory, hiring staff and paying for other business assets, the cost of starting and growing a business is often immense, making the ability to borrow money essential.
It’s common for business owners to feel overwhelmed when it comes to borrowing money, both by the seemingly limitless range of options that are available and by the extreme complexity of many forms of financing.
Below, Business Adviser and Corporate Consultant Neil Debenham has shared a detailed guide to the options for small businesses looking to borrow money, covering everything from simple loans to merchant cash advances and other forms of financing.
How businesses typically borrow money
Small businesses almost always need capital to grow. This capital can either come from your own savings as a company director and shareholder, or in the form of a loan from a business lender, such as a bank.
Borrowing money is highly common for small businesses. According to data from the British Business Bank, 36 per cent of UK-based smaller businesses make use of external financing services such as loans.
Three borrowing solutions are most common for small businesses. The first is small business lending, typically via a term loan. The second is borrowing via a credit card, while the third is borrowing via a merchant cash advance.
Borrowing money via a small business loan
A small business loan, typically referred to as a term loan, is a popular option for businesses that need to fund their growth and expansion.
Term loans are made for a specific period of time. For example, a small business may borrow money for 24 or 36 months. The amount borrowed is paid back with interest through a regular payment, typically every month or quarter.
Small business loans offer a few advantages. First, they tend to have lower interest rates than other forms of business financing. Second, for businesses with significant collateral, they often allow access to a large amount of money.
They also have a range of disadvantages. The first is that they have a fixed payment schedule, meaning your business will need to make regular payments regardless of how well it performs financially. If your business suffers a setback, this may affect your ability to repay the loan.
Second, applying for and receiving a small business loan is often a low process, although this can vary from lender to lender.
Borrowing money using a credit card
Although it’s far from ideal from a financial perspective, many small businesses borrow money using a credit card.
Borrowing via a credit card has two major advantages. The first is that it’s extremely quick and simple, with most credit cards readily available to businesses with sufficient trading history and cash flow.
The second is that it’s an extremely flexible, convenient way to borrow money. As the owner of the business, you can borrow money exactly when it’s needed without the inconveniences of a typical bank loan.
The biggest disadvantage of borrowing money via a credit card is the cost. Credit cards usually have high interest rates and fees, meaning that even a small loan can have significant costs for your business. This means that you’ll need to borrow selectively to avoid overspending.
Borrowing money via a merchant cash advance
A merchant cash advance is a form of financing in which a business borrows money, they pays it back using future sales revenue. For example, a business might borrow money to purchase a new batch of products, then pay back the loan using the revenue the products generate.
Like conventional loans, merchant cash advances can vary in size from a few thousand pounds to hundreds of thousands of pounds, with the amount that’s available usually depending on your business’s turnover.
Borrowing money via a merchant cash advance has several advantages. The first is that it’s a fast, relatively simple process. Provided your business has enough cash flow, it will usually be accepted for a merchant cash advance, even if its credit history is less than ideal.
The second is the flexibility. Since a merchant cash advances is paid back via your business’s sales revenue, a sharp downturn in your business’s income won’t affect your ability to make its payments in the way it would for a conventional small business loan.
Like borrowing money via a credit card, the biggest disadvantage of borrowing money using a merchant cash advance is the cost. Merchant cash advances tend to be expensive — in some cases, their fees can exceed the interest rates applied to credit card borrowing.
Like with many other aspects of business financing, there’s no best solution for every business that needs to borrow money, finishes Neil Debenham. As such, it’s best to consider your business’s unique situation and choose the option that best suits your needs as a business owner.
Neil Debenham www.neildebenham.com