Customer’s all too often only look at and consider the interest rate or immediate cost to their financing solution(s). A small businesses really need to look at / consider the overall cost of their financing and the relationship with their lender.
There are endless choices today to finance your small business: bank loans, credit cards, alternative lenders, leasing, private loans, equity, etc. In this article, I will address the 2 most common financings for Canadian Small Businesses: Equipment Financing & Working Capital needs. In future articles, I will address other financings.While a bank will likely provide you the lowest interest rate, what is the real cost? How many hours/days will you spend on obtaining the financing? Current estimates tell us it takes the average small business 30-80 hours of work & research to obtain a bank loan. What is the cost to your business to maintain the ongoing compliance costs (bank reports, margin reports and financial statements at intervals you may not do anyway). These costs must be factored into your overall cost of borrowing.
One of the most common reasons your small business will borrow is to finance an asset (Equipment, Vehicles, etc). If you are purchasing a piece of equipment you are likely considering the following options:
- Using your working capital (paying cash);
- Using your business line of credit;
- A term loan secured by the equipment; or
- Equipment Leasing
Before you choose the apparent cheapest option, you should consider:
- The ability to buy-out / payoff your financing choice early
- Does the term work within your cash flow? (a lower rate, with a short term, may not be ideal for your business if the payment is going to stress your cash flow)
- If your business is seasonal, does the financing option include seasonal payment structures?
- What is the after-tax cost of the financing (ie – Leasing may provide tax benefits)
- The compliance cost of your financing choice.
- If you think you may need to replace the equipment or trade it in – your early payout options are very important. Many finance contracts have a “balance of payments” provision, some call for 3 months interest and some may not allow any pre-payment.
- Not all leases / loans are the same – read the terms and conditions of your agreement! Ask questions to determine the overall cost of financing and the flexibility the financing offers. Flexibility in financing is critical to a growing small business. Can you establish a seasonal payment structure to match your revenue? Can you skip a payment? Can you move a payment? Can you payout early? These questions should be factored into your decision making process, not just the interest rate.
Most small businesses are always short of working capital. Tying up your banking lines or your borrowing capacity at the bank may not be the best choice for a growing small business, again flexibility is critical for a small business. What if you tie up your banking facilities for a new piece of equipment and then your facilities are maxed when you need help with a large order?
Generally, equipment manufacturers and suppliers can offer you attractive financing options. You could also use the services of a business loan / lease broker. They will shop the market for you and provide you the options available for your business. A professional broker will also outline for you the various terms, benefits and flexibilities with each option they sourced. Typically, Loan/Lease Brokers are paid by the lender, so there shouldn’t be a direct cost to you (note: the lender will build in this cost into the offer they make your business).
Avoid any finance contract/agreement with “verbal” promises. Every reputable finance company will document their terms, conditions and representations to you. If the company or broker has made a representation to you outside the terms & conditions, ask for that representation to be put into the contract or in writing.
Working Capital Needs
If your small business needs additional working capital, you’re not alone. One of the main reasons small businesses fail is due to a lack of working capital and/or cash flow problems. Some options for working capital are:
- Investor / Venture Debt
- Bank Lines of Credit
- Alternative Lenders
- Invoice Factoring
If you are looking at taking on an investor or venture debt, what is the real cost of the capital you obtained when you sell your business in the future? Did your business obtain extra value from the investor? Did they help you grow the business? If, not you likely have paid the highest rate for an effective loan.
Have you considered alternative lenders for your working capital needs? Numerous companies have started to offer working capital solutions in Canada. AccordAccess is one such product. There are numerous companies now offering solutions to small businesses. As you may suspect, the same questions listed above should apply to your working capital loan:
- How flexible is your working capital loan?
- Are they secured or unsecured? Do you need to pledge collateral?
- How long do you need the capital for?
- Can you re-advance?
- Can you payout early?
- Seasonal payments?
- Can the lender offer solutions as your grow?
- What is their lending capacity? Do they have the ability to finance your growth?
- Are you building a relationship with the lender and them with you? Or are you just a customer number?
- Have you considered invoice factoring? (this will be discussed in detail in a future post)
To determine the TRUE COST of the financing: factor in your time, your ongoing compliance costs and any fees associated. Is the financing matching your business needs? Talk to your lender about your immediate and future needs to determine if they are a good fit for your business.
Don’t assume each finance company is the same. Like you, they have to differentiate themselves in the marketplace. Perform the same due diligence in choosing your finance source as you would with any other business relationship and purchase.
A strong relationship with your finance source(s) is critical to your small business’ success and growth.
Do you need an opinion on your situation? Feel free to connect and send me a message on LinkedIn.