The following sequence of events is common to many new and expanding businesses.
The Short-Term Squeeze
You start your business with a limited amount of capital and an abundance of good ideas and ambition. The sales activity has been adequate to produce a net profit. Your inventory is about twice as large as you intended. Your accounts payable are past due to the point where some creditors want to ship C.O.D. only. To keep your creditors happy, you have been overdrawing your checking account to the dissatisfaction of your banker. You have a short-term note past due at the bank.
These are all symptoms of a very common business ailment – too much short-term debt.
This type of cash squeeze can be avoided if you confine your company’s growth to that which can be handled from retained earnings. If the cash retained in the business from last year’s profits is $25,000 and inventory grows by twice that amount, somebody (you, your banker, or a new partner) has to fund the expansion that cannot be funded by the retained earnings.
If you can’t provide additional capital and you don’t want a partner, you need to look for long-term funding from one of the following sources:
- Funds from Owner – Studies indicate that as much as 60% of all small business funding comes directly from the owner or his/her immediate family. Outside of your immediate family or friends, you may find funding from other private parties or from financial institutions.
- Private Lenders – There are some problems with outside private lenders. First, they are few and far between. Second, they generally demand a higher rate of interest and/or want to own a percentage of the business.
- Financial Institutions – The main problem in using financial institutions for small businesses is that banks are not in the “risk” business. Although you may be very optimistic about your company’s future and have a glowing cash flow projection, the banker is not likely to rely on it for loan purposes. You may have adequate collateral in terms of inventory, real estate, etc., but if the banker feels that you will not have adequate after-tax net profits to service a loan, he/she is not likely to lend you money. Bankers do not want to liquidate your assets in satisfaction of their loan.
- Small Business Administration – If financing is not otherwise available on reasonable terms, the Small Business Administration may be available to assist with its various loan programs.
- Money Brokers – There are “money brokers” who advertise in various newspapers and business publications. Many of these brokers want to be paid in advance to locate possible lenders for you. Be very cautious of any broker and ask for references and credentials. Any proposal by such brokers should be reviewed by both your attorney and your accountant before you sign anything.
If you would like more information on the business funding options available in your situation, please feel free to call.