Whilst small businesses have their visions, values, investments, products, identity, and many more facets that make up their organization, none of it matters if you cannot maintain a healthy cashflow.
At the end of the day, business is about surviving first and foremost – particularly within the first 5 years of starting up. Any investment a business makes or products it sells, all comes back to the same pot – the pot you pay your rent, staff, and liabilities with.
Sometimes, cashflow can get in the way of ambition. Prioritising the next few month’s utility bills is hardly something to get the blood racing, and so it’s often an under-talked-about issue. To add to the issue, many overlook cashflow because they’re too focused on profit. Or worse, they conflate the two.
Conflating the two can lead to believing that a profitable year can mean you’re in good shape to meet current liabilities when it’s simply untrue. A company with large accounts receivables, for example, that sells their products on credit can make a large profit yet have a negative cashflow.
One way out of cashflow issues can be financing, which again, isn’t a glamorous side of the business. Expensive interest payments, the stress of repayments, and taking on more liability are often the last resort. It can make a struggling business struggle more, but it can also keep a business afloat. In fact, it can also be a proactive measure to fuel growth, so it isn’t always a “last resort”. Small business financing guides can help us understand when, where, and why taking out a loan can help us, but later in the article, we will cover the main scenarios which may help businesses.
It’s easy to understand the anxiety around small business financing. After all, taking on something that requires more repayments can seem counterintuitive towards combating cashflow, but it can make sense in a lot of scenarios. For example, a company that sees seasonal fluctuations in sales, such as a summer clothing store, could finance their winter months with a line of credit to stay afloat until summer. It’s very much possible that summer remains prosperous enough to easily clear the repayments, and perhaps build up enough cash reserves so that next summer, a smaller amount of financing is required.
How to know if financing is a viable cashflow solution
This is a difficult topic, and beyond a detailed cash flow forecast with the financing factored in, the general rule of thumb is that you must have good reason to believe you can make the future repayments – i.e. your future cash inflow is expected to rise or cash outflow is expected to decrease.
An example of the former would be that taking out a small business loan would be a way to finance an expansion project or invest in new machinery, that would yield greater revenues once the loan money has run dry. Or, for the latter example, a cheaper form of debt is being used to pay off an expensive debt that will inevitably lead to lower repayments.
If you believe the repayments of this new loan will only make meeting liabilities more difficult, and that you can’t see your situation improving from the debt (and is instead just to survive for an extra couple of months) then prolonging the inevitable is a dangerous and futile action. Building up more debt can get you in more trouble when it comes to repossession, particularly when personal assets are used as collateral. Furthermore, it’s in bad faith to take on debt that you know you cannot repay.
Below are some different types of small business financing options that can help with cashflow difficulties:
Small business loan
Small business loans tend to have a few different features, such as being secured or unsecured (where either asset are used as a guarantee or not) as well as being fixed or variable rates of interest. However, the key categorization here is whether it’s a bank loan or an online small business loan provider.
Bank loans are the cheapest option in terms of interest, but as a result, are difficult to be approved for. With high creditworthiness, applicants must spend a month or more drawing up business plans, having meetings, and awaiting a verdict. On the other hand, online lenders have automated processes in which funds can be issued within hours, and credit score isn’t often very important compared to current financials. In short, online lenders are more friendly to start-ups, those with poor history, those looking for unique types of funding, and those looking for quick cash.
A small business loan is the ideal option when looking for small investment and expansion in order to improve cashflow. Terms can be long enough to fund short-to-medium-sized growth projects, and repayments make modeling easier. Additionally, there are plenty of options within this category, such as equipment financing and invoice factoring, which can be great ways to make use of collateral in order to gain favorable terms.
Line of credit
A line of credit, also known as revolving credit, is essentially like having a pool of cash that you can touch, but you will only be charged on the amounts you do touch. It’s as if this type of credit was made for some scenarios of cash flow issues – in fact, it was. For example, it’s the perfect way to cover unexpected one-off costs, as you can simply dip into the line of credit, take only what you need, then make gradual repayments.
It spreads your short-term costs over the long term, and wouldn’t necessarily be used for a long-term expansion project. You could borrow more from other forms of financing, and with more certainty over the repayments. However, to get through a difficult season or unexpected cost, it can be perfect.
Equity financing is the process of raising funds through the sales of shares. This can be done with friends and family, crowdfunding, angel investors, venture capitalists, or accelerators. Of course, there will be varying levels of expectation between them, but it can essentially be a way to raise money without interest-laden repayments. Of course, payment may come in the form of dividends and such, but generally, this is only taken on profits, not revenue. Thus, if you’re not profitable, no one is getting paid.
Equity financing would perhaps be an extreme measure for only a small cash flow issue, which is why it’s more likely used for large, long-term growth projects. Of course, the other “cost” of this is that you may lose some of your ownership, or all shareholders have their ownership diluted.
In general, any significant action in a business, whether it’s taking on debt or changing the capital structure, should be done with great care. Cash flow analysis and forecasting don’t have to be complicated, but they can be vital to direct a company into making better decisions. Generally, the cheapest forms of financing are the most difficult to attain, and no debt should be taken on without strong evidence that repayments can be made.
Small business finance from online lenders is a growing industry with lots of innovation, so it’s worth keeping up-to-date on the new types of loans that are being created. After all, meeting customer needs is more important when there’s fierce, transparent online competition as opposed to a high street culture of customer loyalty and complacency.