Grow Your Business by Accessing New Sources of Capital

Lack of capital, or access to capital, is one of the fundamental barriers facing business owners, especially for small businesses. Over half of today’s entrepreneurs use their personal resources (cash) to start their companies and/or borrow from family and friends to supplement. Many use personal credit cards as well. Since owning and operating a small business necessitates an “all-in” approach for ultimate success, let’s take a look at some business basics and some general advice on simple ways to fund your small business.

Profits vs. Working Capital

Having the right markup on a job is key to your overall profitability. On paper, Job Price minus Job Cost equals Profit. Profit, however, is not the same as working capital, which by definition, is the money you actually have on hand to operate your day-to-day business. Those are funds that cover not only the materials and labor for each job, but also your rent, utilities, machinery maintenance and other overhead expenses. Understanding that difference is especially important when trying to grow your business.

To be clear, Working Capital is calculated as the business’s current assets less its current liabilities. Companies can also calculate their Working Capital Ratio (Current Assets divided by Current Liabilities) to understand how much working capital is available for every dollar of current liabilities. Having a healthy working capital ratio helps ensure that the business is able to meet its current liabilities as they come due. Lenders typically like to see between a 1.5 and 2 to 1 ratio, as something less indicates a potential future inability to pay current debts on time and may not incline a lender to provide you with new money for growth.

Sources of Funding

Family and Friends — As already noted, this is a common way to procure funds, especially on short notice. The risks involved are twofold: 1) Will they have the amount at hand that you need and when you need it? 2) Will your personal relationships survive the transaction if something goes wrong with your ability to repay?

Business Credit Cards — These can be useful for short-term needs. Risks involve potentially high interest rates, especially if you use a cash advance option, and a maximum credit limit. In addition, using business credit cards for capital investments or other long-term purposes will reduce your ability to access the capital accesible on the card for any usual monthly needs.

Working Capital Loans — There are several types available from a multitude of sources, like credit unions; banks, including in partnership with the U.S. Small Business Administration (SBA); and even alternative lenders. These loans can range in size based on the cash flow needs of your company for a 12-month period and are not expected to be long-term.

When To Apply for Credit

As a best practice, you should apply for credit before you need it. Establishing your creditworthiness before you need the money is one of the best business decisions you can make to help grow your business. Work with your local bank or credit union. Borrow the funds to purchase a piece of equipment, even if you already have the cash available, and make the payments on time or even a bit early. Then, do it again. Although there may be costs of maintaining borrowing facilities that you don’t actually need, your proven ability to repay now will benefit you later when you need a larger loan for working capital, perhaps in the form of a line of credit. This is especially important for seasonal businesses that experience lower revenues in certain months while fixed expenses remain the same. Having a history of solid repayment for any vendors or suppliers with whom you want to establish monthly credit terms will also be helpful during slower seasons.

Things To Consider When Borrowing

Borrow the Right Amount — Too little will leave you still struggling after you thought you had it covered. Too much may tempt you to overspend. Work the numbers to estimate what your needs will be for the next 12 months that won’t be covered by normal income or could be affected by differences in the timing of income versus expenses. Your lender can help you with this process.

Understand the Loan Terms — The amount, the repayment schedule, the interest rate, your collateral pledge and even your personal liability are all important factors. Talk with your lender about your needs and discuss options. Banks want to make loans and will work with you to make a mutually beneficial business relationship beyond your checking account.

Keep Good Financial Records — You will need to provide some financial information to the lender to support your request. Spend time pulling together bank statements, tax returns and internal records to bolster your case. Practice explaining why you want the money before your appointment. Express your vision and passion to grow your business. Whether on paper, a spreadsheet or accounting program, know your financial history so that you are prepared for any questions from the lender. That should include what you’re spending this new money on and if it’s likely to be repeated.

Compare Financing Sources — Just like you compare work trucks or equipment before you buy, there is also a benefit to comparing banks, credit unions and alternative financing sources. Each will have different options available, and it’s up to you to find the one that fits your needs. In the U.S., it may also be helpful to explore the options offered by the SBA at https://www.sba.gov/funding-programs before talking with a lender.

Repair Poor Credit History — This goes for business and personal credit. For business credit, if you have past-due debt, work with the supplier to clear it up by negotiating a longer repayment, deferred interest or other terms that will ultimately help you both. For personal credit, at least once per year, check your credit report (there’s no cost for this). In the U.S., the Federal Trade Commission provides valuable information, resources and links at https://www.consumer.ftc.gov/articles/free-credit-reports.

Planning for the financial stability and growth of your small business by establishing access to working capital now will help reduce the cost (and stress!) of needing quick financing and not knowing where to turn to get it later. By keeping your personal and business credit clean, maintaining accurate financial records and estimating future needs, you can improve your creditworthiness now to help ease the path to future success.