If your business is in start-up mode or in the early stages of growth, you might be looking for business finance. According to the Reserve Bank’s Small Business Finance Advisory Panel, however, one in five small businesses find it difficult to access what they need.
SMEs in search of new business funding basically have three options to consider:
1. Equity Finance
In the simplest terms, equity finance is money your business receives in exchange for equity – in other words, a share in the ownership or profits of your business.
It covers a wide range of scenarios:
You approach family and friends.
This is a commonly used method, and might seem like the simplest way to get the funds to meet your business needs. Not necessarily.
The main drawback is the personal dimension. You should make it clear you are not asking for a loan that will eventually be repaid. Even if you have clearly communicated all the potential benefits and risks, and all parties are satisfied with the terms you’ve arranged and the business plans you’ve drawn up, there will be an inevitable impact on the relationship if the business fails to reach its anticipated goals.
Consider how successfully (or not) personal and business interests might mix
You look for outside investors
SMEs can be attractive to individuals or companies who are keen to invest in businesses showing potential for growth. As with all forms of equity financing, by accepting capital you are relinquishing some control over your business and its future profits. If your company goes public, investors can sell their interest in your company to other investors.
‘Business angels’ are more likely to be interested in making smaller investments (usually below $1m). Venture Capital (VC) investors often have specific criteria in mind and usually want to invest much larger amounts.
You consider crowdfunding
Most people are familiar with platforms that allow individuals or companies to raise money by asking for pledges of support (non-deductible donations) for projects, usually offering a ‘gift’ or new product in return.
As a result of the extended Corporations Amendment (Crowd?sourced Funding) Act 2017, Equity Crowdfunding is another option. It is available to companies with turnover or gross assets up to $25 million, who can raise no more than $5 million a year. Funding is organised via a number of licensed platforms. There are stringent regulations and costs to consider.
SMEs should seek expert advice when considering this method.
2. Business Loans
Debt financing, including loans, means you maintain ownership and control of your business. Obviously, you must commit to regular repayments in a specific time frame, and factor in fees and interest payments.
Depending on the type, and amount, of finance they require, SMEs have a range of options.
What types of business loans are available?
- Secured Loan. A specific sum is borrowed over a fixed term, and business, or even personal assets are attached as security.
- Unsecured loan. Often used for shorter-term needs, with a fixed schedule for repayments.
- Line of credit.Funds, up to a set limit, are made available, at need – for example to pay suppliers or other recurring costs. With each repayment, further funds become available
As the Reserve Bank’s Advisory Panel has pointed out, banks have been increasingly ‘reluctant to extend finance without real estate as collateral‘ and many SMEs are considering alternatives.
Non-bank business lenders
They are becoming increasingly popular among Australian businesses. They offer fast and easy online application processes, quick delivery of funds, and market interest rates. They usually provide a more personalised service than traditional banks. Some specialise in certain areas – for example vehicle and equipment finance, or invoice and supplier financing.
Peer-to-peer (P2P) lenders
In simple terms, SMEs pay a fee to apply for a loan via a P2P platform. If the application is approved, interested investors subscribe to the potential loan amount, called a ‘listing’. When the desired amount is reached, the loan interest rate is determined, and the funds are released. The process can be time consuming, and the checks extensive. Although P2P lenders’ rates are often lower than those offered by banks, they are sometimes unpredictable. If funding targets aren’t reached, it’s possible to lose the application fee.
For business loans:
- Choose the right product for your purpose and your circumstances
- Check and compare interest rates and fees
- Make sure repayment terms have the right degree of flexibility for your business
Essentially, this option can mean two things. Either one might be a quick and easy way to manage a short-term cashflow problem, but both have clear pitfalls.
You use your own savings
When the risk extends into the personal sphere, most business owners will want to make it a fully calculated risk. The percentage of your savings you will use, the period of time you are prepared to invest personally in the business, and the structures for repaying yourself must be taken into account. You should also weigh up the investment against savings on costs associated with other sources of business finance, and the gains or growth the investment might bring.
You use your credit card
The danger is to accumulate credit card debt, fall into what is effectively the highest interest loan in the market, and damage your credit. Using interest-free periods and a pre-determined repayment schedule makes this method viable short-term.
A cash injection might be just what your business needs. When considering business finance, the best advice is the simplest: check and compare before you choose.
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