Obtaining a small business loan should not be something you dive right into. You need to be in a good position to borrow money before you make that decision. Often times small business owners borrow money when they are in a bind or cash flow is tight (or non-existent). Based on my experience in working with small business owners, that is not always the best time to borrow. If you do decide to borrow money, you need to do it at the right time. If you think you are ready to borrow money for a small business, consider the following:
- Cash Flow – Your business should have a steady and consistent cash flow before you even think about obtaining a small business loan for your business. If you’re revenues are inconsistent and you don’t have a lot of money coming in, how will you be able to pay back what you’ve borrowed? Borrowing money for your business when you don’t have the funds to pay back could cause your business to get into a bind that you can’t get out of.
- Profitability – Your business should be showing signs of profitability if you want to obtain a small business loan. If you’re business is losing money month after month or year after year, do you think a lender will feel comfortable lending to you? Better yet, would you feel comfortable taking a lenders money knowing that there’s a huge chance you won’t be able to pay it back because your company could go out of business? Unless you are 100% sure you can do what it takes to turn the business around so it becomes profitable¸ save yourself the trouble and forgo borrowing money for your small business at this time.
- Debt Servicing – Before a lender will lend to you, you will need to show them proof that you can service the debt. Servicing the debt is your ability to pay them back on time without defaulting. If you feel that you don’t have the business revenue (or personal income) to make timely payments (with ease) then now may not be the time to borrow.
Borrowing money before you are ready and capable of borrowing could cause damage to your personal and business credit history (due to late payments or defaults), or most importantly – cause you to have to close your doors. For example, a past client and I were discussing various funding options that small business owners often utilize for their businesses. One of the types of funding options I mentioned was “merchant cash advances”. In case you don’t know, merchant cash advances are an alternative type of funding that can be obtained based on your daily credit card sales and/or bank deposits. He immediately turned to me and said, “no way, that will ruin a business!” I in turn asked him why he felt that way and he said “an old business associate of mine got a merchant cash advance to help stop his restaurant from going out of business and he ended up having to shut it down anyway.”
I immediately told him that was his business associate’s first mistake! More often than not, you should never get a merchant cash advance to “save your business” from going out of business. Merchant cash advances are an exceptional way to fund a business, when it makes sense for the business. In my experience, they are best for businesses that have a good amount of cash reserves and high daily credit card volume and/or deposits. This is because merchant cash advance lenders often require businesses to pay back a percentage of the advance daily or weekly (until it is paid back in full). That can equal death for a struggling business with little to no cash reserves and few daily customers. However businesses that are in a position to take on this type of debt can often do it with ease. The moral of this story is, don’t take on debt or borrow money when you are not truly ready!
In conclusion, I am not trying to scare you by outlining the things you need to consider before deciding to borrow money for your small business. However, I think it’s important that you properly and effectively analyze your current situation before taking that leap. If you are still unsure of whether or not now is the time for you to obtain a small business loan (after reviewing the information outlined here), you may want to consult with an expert. The best experts will be able to analyze your current situation and give you honest and sound advice on the best route to take.