H O W T O C H O O S E T H E B E S T F I N A N C I N G O P T I O N F O R Y O U R B U S I N E S S
If you know the adage "you need to spend money to make money," then you're probably aware that it's true. If any company wants to thrive in today's market, they will have to pay a pretty penny to do so.
Unfortunately, running a business isn't cheap, and not everyone has enough liquidity to fund all of their business functions, projects, and miscellaneous expenses. This is especially true for businesses just starting.
Since many small business owners can't afford to pay for everything themselves, they turn to alternate forms of financing. There are numerous financing options to choose from, so you must pick the right one for your business.
In this guide, we'll teach you everything you need to know about business financing to choose the best option for your company.
W H A T I S B U S I N E S S F I N A N C I N G ?
Business financing is the financial planning and acquisition of funds to support various business functions. This can entail anything from acquiring money through company fundraising to applying for a small business loan.
T Y P E S O F F I N A N C I N G F O R Y O U R B U S I N E S S
So what is the best type of financing? In this day and age, there are numerous options to finance any business necessity on the market.
The type you choose will be contingent on what you need funding for, how much you need, and which options are most accessible to you.
You don't want to be taking more money in loans than you can pay back and end up bankrupt. Likewise, you don't want to try to fund large projects with unreliable forms of financing such as donations.
So what is the most common method of financing a business? These are some of the most common and effective types of financing for businesses:
T Y P E S O F F I N A N C I N G F O R Y O U R B U S I N E S S
F R I E N D S A N D F A M I L Y
For those with the luxury, going to family and friends is a viable option to help small startup businesses and pay for some of the little expenses.
Make sure that you discuss the potential risks with them, as well as give them an outline of your business plan. You don't want to leave the people who are funding you under the premise of trust in the dark. Also, be sure to give them a rough timeline of repayment and have them sign a contract to avoid any legal issues.
Going to friends and family is a great way to finance your business without taking a risk that can leave you bankrupt. Keep in mind that you are risking the money and relationships of your loved ones, so be confident that you'll be able to pay them back.
C R O W D F U N D I N G
If you have an innovative idea for a business, product, or service that can draw an audience, you may want to try out crowdfunding.
Crowdfunding is an alternate form of finance that entails gathering minuscule amounts of money from large groups of people. This is usually done through the internet and can help startup companies and projects.
As long as you've got a compelling case and you know how to market yourself online, crowdfunding is a low-risk financing option that can help with development and early startup costs.
L O A N S
If you need a bigger check to fund your company's expenditures, you may want to apply for a loan. There are various types of small business loans to accommodate different needs
S M A L L B U S I N E S S L O A N S ( S B A L O A N S )
Small Business Administration loans, or SBA loans, are loans backed by the U.S. SBA and distributed through participating lenders.
If your business qualifies under the SBA's strict standards, you can be guaranteed a loan with flexible terms and low-interest rates, one you otherwise wouldn't be eligible for.
The purpose of these loans is to help small businesses make their way in an incredibly competitive, commercial-based industry. These loans have less risk when compared to a regular term loan
T E R M L O A N S
When you hear the word "loan," you're probably thinking of a term loan. A term loan is a pre-set period of repayment for a certain amount of money. The interest rate can either be floating (an interest rate that changes periodically) or fixed (a stagnant rate).
There are two main types of term loans: long-term loans and shortterm loans. Long-term loans are usually issued by the bank and are paid back over 5 - 10 years. It's a bit harder to apply for long-term loans, especially if your business is new. To ensure your best chances, make sure you have a good credit score and a solid business plan.
Short-term loans are smaller amounts of money typically distributed by online vendors. They're often paid off over 1 - 3 years and more lenient with their clients.
Regardless of what type of loan you take, make sure that you weigh the risks and rewards beforehand and don't do anything you can't handle financially.
G R A N T S
Grants are money given to prospective business startups or projects by local organizations. This is done if your company relates to its mission and supports its overall purpose. Grants are circumstantial, but they're essentially free money if available to you.
L I N E S O F C R E D I T
Lines of credit are similar to credit cards for businesses. They're typically managed by government-approved financial institutions, usually a bank, and allow companies to draw funds as needed.
Like a credit card, lines of credit have a spending limit. As you pay back what you owe, your spending limit resets.
While lines of credit shouldn't be your primary source of funding, there is merit to applying for one as soon as possible. Lines of credit can help with more minor expenses as well as in emergencies.
P R I V A T E I N V E S T O R
If you've got some connections or a stellar business plan, you may want to consider a private investor.
Unlike a loan where you have to pay back a set amount of money, the investor has a different set of terms. Usually, it is a portion of the business.
Since the investor is taking the same risk as you, they'll be getting a say in critical business decisions and contractually own some of your business, so keep that in mind when you consider this option.
E Q U I P M E N T L O A N S
Equipment loans are small business loans that you can apply for, which pay for business equipment and accessories.
This can range from heavy machinery to office supplies and can be a pretty viable option if you need to buy some essentials for your company to function.
Specialized equipment loan companies usually handle this type of loan, but you can apply for them at some banks as well.
I N V O I C E F A C T O R I N G
Invoice factoring is when you allow a factoring company to handle all invoices of your business in exchange for a sum of money. In return, the factoring company will take a small percentage of each invoice, then place the rest in your bank account.
Invoice companies don't go off of your credit history like bank loans; they prefer to see results. If your company has good sales ratings and projects exponential growth, then invoice factoring is a solid alternate form of financing.
D E B T V S . E Q U I T Y : W H A T ' S T H E D I F F E R E N C E ?
There are two types of financing: debt financing, and equity financing.
Debt financing is a form of funding where one party borrows money from another and is required to pay it back over some time, usually with interest. The most common form of this is your typical short-term small business loan.
Equity financing is another form of funding where you give part of your business's equity (the assets, liabilities, and debts of your company) in exchange for capital. An example of equity financing would be invoice factoring.
Unlike debt financing, in equity financing, you're not paying a lender with fiscal compensation out of your pocket but rather from the success of your company. Put simply, if you're making money, they're making money.
The inverse is true for debt financing in that if you're losing money and not making payments on time, the lender is making money from interest rates.
Knowing the difference between debt and equity is vital in choosing what financing option is best for your business, so make sure you know what you're getting into before you choose.
F A C T O R S T O C O N S I D E R W H E N F I N D I N G T H E B E S T F I N A N C I N G O P T I O N F O R Y O U R B U S I N E S S
Because of all the ways to finance your business, there are many factors to consider when trying to determine the most optimal financing option for your company's circumstances. Knowing them will enable you to make a decision more effectively and to a greater degree of success.
Before you spring for what seems to be the best option, consider the following:
W H Y D O Y O U N E E D F I N A N C I N G ?
The most obvious yet most important question to ask is, "why do I need financing?"
Having a clear-cut image of what you're trying to accomplish with the money will help both you and prospective financiers understand where the money will be going and why your business needs it
H O W M U C H M O N E Y D O Y O U N E E D ?
You will have to crunch some numbers and determine how much funding you need as accurately as possible.
Taking too much will result in unnecessary interest expenses and longer repayment periods. On the other hand, taking too little can cause your company to fall short and end up backtracking.
R I S K S A N D R E W A R D S
A good idea is also to weigh the risks and rewards of each option. You'll find that some financing alternatives have different risk and reward potentials.
To find the best option, you need to determine what degree of risk you're willing to take based on your chances of succeeding and if the rewards are worth it.
T H E C O S T O F F A I L U R E
As humans, we don't like to think about the negatives. Unfortunately, you're going to have to make a decision.
While you may be confident in your business plan on paper, the practice may go much different than you anticipated.
As such, you need to understand what the costs of failure are. If they're going to put you into crippling debt for the rest of your life, then they may not be worth it.
Before you choose which financing option is best for you, outline the worst-case scenario for each of them and determine if you're willing to put yourself in that situation.
Y O U R L E V E L O F E X P E R I E N C E
If you're looking for financing to start up your first business, you may not want to dig yourself too deep into a hole.
You may want to save some of the pricier financial options for businesses when you have more experience and a better gauge on how to utilize the funds.
T H E S T A T E O F Y O U R B U S I N E S S
Finally, you also need to consider the state of your business. What's your financial situation, and how well are you doing? Are you just starting the company, or have you been running it for a while? What's your projected growth?
It would help if you asked yourself these questions to get an idea of how extra money will affect your business and which option is most suited for your specific circumstances.
FAQS
Here are some commonly asked questions about essential business financing:
WHAT IS THE MOST COMMON METHOD OF FINANCING A BUSINESS?
The most popular method of business financing is the term loan. Other popular financing options are SBA loans, lines of credit, and equipment loans.
Keep in mind that just because these are the most common methods of financing a business, this does not mean they are necessarily the best choice for your business.
WHAT ARE THE 5 SOURCES OF FINANCE?
The 5 sources of finance are commercial loans (banks), private lenders, trade credit, installment credit, and advances.
IN WHICH SITUATION WOULD A COMPANY PREFER EQUITY FINANCING OVER DEBT FINANCING?
Equity financing is preferable over debt financing in circumstances where there are risky/unreliable business endeavors being pursued.
This is because there is no obligation to pay back financers in equity financing since they share all liabilities and risks of the company. This is advantageous as not to put the company into more debt if it were to fail.
HOW DO I DETERMINE HOW MUCH BUSINESS FINANCING I NEED?
A good way to determine how much business financing you need is a business loan calculator. This is especially useful for calculating how much money you will need to take out and how long it will take you to pay back based on your company's specs.
You may also find it useful to consult a financial advisor to get a professional analysis of your exact circumstances.
CAN I FUND MY SMALL BUSINESS WITH NO MONEY?
Yes, but it will be a lot harder.
There's no way to sugarcoat it, and everyone knows it; the more money you have, the more money you'll make. That doesn't mean you can't start a business with no money, it's just going to be riskier, and you won't get loans quite as easily.
Still, with an excellent personal credit score, a solid business plan, and an incredible work ethic, you can start a small business with no money.
C O N C L U S I O N
Choosing what type of financing is best for a business isn't easy, especially if your company is in its infancy.
Fortunately, you have a large variety of options at your disposal such as term loans, lines of credit, equipment financing, SBA loans and invoice factoring.
Just as long as you have a cohesive plan and understand all of the risks, you can reap the rewards of running a prosperous small business in no time. Just be sure you've properly researched your options and selected the most optimized course of action.
Once you've done all that, you're ready to start an incredible business campaign.
Need help securing financing for your small business? Allegiance Funding Group can help answer all of your questions, and assist you to obtain the right business financing for your business.
C O N TACT INFORMATION
Allegiance Funding Group
Email: info@allegiancefunds.com
Ph: (617) 356-1806
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