Holly founded ExitPromise.com as well as StartupPromise.com and so far has answered more than 3,000 questions asked by business owners about starting, growing and selling a business.
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Once you’ve successfully assessed your financial needs for a business loan, you’ll want to follow these guidelines to determine what, if any capital funding you may need, and the best type of business loan for your business.
What are the best reasons for a small business to pursue funding?
How can you best determine if you need more capital to fund your business?
Capital funding is needed for one of several reasons which include:
- To meet short-term cash flow needs. An example of this situation is when your business has employees which are paid every two weeks while your customers/clients pay you within 30 days of invoice (if you are lucky!). This is a short-term capital need and is best managed with a Line of Credit. Another source for short-term cash flow needs is an Alternative Lending company. Such companies lend against Accounts Receivable and in certain cases, Inventory.
- To purchase a building, equipment, large tools, and other physical property that lasts more than a few years. These are mid-term to long-term capital needs and are best managed with a term loan.
- To acquire inventory or to purchase a business. This type of loan is offered by lenders based on the ability of the business to make a profit and pay the bank back in approximately seven years. Often this type of loan involves SBA Lending from the federal government.
- To start a new business or expand an existing business into a new market. This type of funding is sourced typically from the business owner’s personal funds, friends and family, banks, Venture Capital (VC) funds, Private Equity (PE) funds, angel investors, and crowdfunding.
Whether you need additional business capital depends on the type of business capital you are pursuing.
Capital To Meet Short-Term Cash Flow
If you are collecting your Accounts Receivable within the terms you’ve established with your customers and are having difficulty paying your vendors, employees, payroll taxes and other parties on time, you either have a business that is not making a sufficient profit, or one that is growing at a rate that has outpaced your existing capital structure.
If you’re business is not profitable, borrowing money will only serve as a temporary solution, unless you find a way to make a profit. And if you borrow too much before your business turns the corner, the additional debt may prove fatal. Business profitability will be necessary for the business’s long-term viability.
On the other hand, if your business is growing and profitable, it may be time to increase your line of credit. A good rule of thumb is to divide your gross revenue for the last twelve months by ten. That’s the amount of money your business should have access to via a line of credit.
Capital for Large Purchases or Inventory, Buying, Starting or Expanding a Business
These types of capital needs must stand on their own merits to warrant raising either borrowed money or equity (capital). In each of these situations, it will be necessary for the business owner to establish his case that the investment will have a positive return.
