Don't have a rich uncle? Five ways to finance your business

by
February 24, 2014

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Finding financing for your business is tricky. Finding the right financing for your business? Talk about exhausting.

The right funding option should match the needs and growth stage of your business, taking into account industry, profitability, and age. Businesses may not be eligible for certain types of funding, so why waste time and resources if rejection is in the imminent future?

We put together a high-level summary that outlines five common types of business financing. Some of the details include risk, pricing, and eligibility, which will hopefully put you on the finance-seeking path that is right for your business.

Ready? Let’s get funded!

 

1. Bank Loan

While most business owners would choose a bank loan as their preferred method of financing, the reality is that most businesses won’t qualify for one (including growing and profitable ones). Since the economic downturn, most banks tightened rules for lending, and many bigger banks consider small business loans not worth the hassle. A major reason for this is because small business loans yield a very small profit margin for banks. If their loans are doing well, they will get a return on assets of between 1-2%. If just one loan goes bad, however, it can often impact the profitability of the bank. For this reason and because of pressure from regulators, banks don't want to (or simply can’t) approve a loan for a business that doesn’t meet all of their requirements.

Some of the top reasons that businesses are denied a bank loan are:

  • They have been in business less than 2-3 years
  • A business owner has bad personal credit
  • There is no tangible collateral
  • The business is not yet profitable
  • Numerous industry-specific risks

The story about how your business got started, the rave reviews by your customers, or an unusually high web presence have no weight when it comes to a bank loan. Don’t feel bad though…82% of small businesses are getting the same stamp of disapproval from banks today.

 

2. Asset-based Lending

A common type of asset-based lending for individuals is a mortgage, or home loan, that is secured by the property itself. In business, an asset-based line of credit is typically collateralized by accounts receivable and inventory. A small business will find it difficult to obtain an asset-based loan unless they have a need for $1M or more in financing, as this type of financing is more involved and costly than a traditional bank line. Lenders often aren’t interested in small asset-based deals because of the expense and trouble involved in monitoring them, as well as the small profit margin. Similar to a bank loan, asset-based lending usually comes with restrictive covenants.

3. Purchase Order Financing

Purchase order financing, commonly referred to as PO financing, is for companies that need financing to order raw materials or goods to fulfill their own orders from other businesses, but don't have collateral through receivables or inventory. Many of the businesses using this kind of financing are growing businesses (often manufacturers or wholesalers/distributers) that don’t have access to working capital and may also have poor cash flow because proceeds come in only after an order is fulfilled. PO financing is fairly expensive, with typical rates being anywhere from 3-5% per month.

4. Equity

For a small business, equity is a good option for those that can’t afford to take on more debt. It is very difficult to obtain, however, and can be the most expensive financing available in the long run. Giving up more ownership and control than originally desired is common with equity financing, but having access to an investor’s network is a great way to build credibility and develop relationships. Profits don’t go toward paying back loans, and investors usually take a long-term approach when it comes to a return. And while difficult to obtain equity, it is equally difficult to get rid of once an investor has ownership in the company.

5. Factoring

For B2B businesses, factoring is one of the easiest types of financing to obtain. To solve common cash flow problems, companies use their receivables to get working capital. There are no restrictive covenants as is common with bank financing, and there are no penalties for being an early-stage company. Factoring is more expensive than banks, but qualifications for business owners are also much less stringent, and often, an owner’s personal credit score matters less than the company’s roster of customers. Wrongly perceived as a last resort for financially distressed companies in the past, factoring is actually a thriving $136-billion industry in the United States with a majority of factoring contracts between large, old-line factors, many of which are bank-owned or affiliated, and creditworthy client companies. Factoring can be a good strategy for any company that has receivables to leverage. 

At P2Binvestor, we’ve taken the traditional factoring model above and combined it with crowdfunding and technology to lower our effective cost of capital. This combination allows us to say “yes” to more companies that are seeking funding. Our platform is a best bet for innovative, growing businesses that need cash at a rate that makes sense. To find out if your business qualifies for our funding, head to P2Bi.com and fill out our short screening form. We will get back to you within one business day.

 

 

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