Funding Alternatives to Small Business Loans
Many small businesses need to raise extra capital or funding at some stage in their growth.
The first task is figuring out how much you need, and what it’s for. For example, you could be aiming to increase capacity by investing in new equipment or expanding your facilities. Or you might be planning to buy a competitor. Whatever the reason, the first part of your business case is to clearly define the reasons you need extra capital. Once you’ve done that, you’ll have a clearer idea of just how much you’ll need, and whether it’s justified.
Finding the money inside your business
Once you’ve determined how much you need, can you actually ‘find’ the cash internally? Like selling equipment you don’t use very often (and leasing it when you do need it), cutting down on travel expenses (use video conferencing instead of physically travelling), reducing the amount of personal withdrawals you’re making, or re-negotiating deals with suppliers for better credit terms.
You’ll be surprised at how much these savings can add up, generating more cash in the business that can be used to reinvest in business growth. Consider these other strategies:
- Shorten cash cycles. Encourage your customers to pay using online and mobile payment options – the cash is then in your account quickly. If you have to invoice, do it immediately and incentivize your customers to pay early, such as offering discounts. You can also shorten your credit terms to 7 days rather than 30.
- Convert working capital to cash. Can you reduce any inventory or materials you’re holding? If you have $100,000 in inventory, but really only need $60,000 (with some extra efficiencies and buying just in time), you could use up/sell this inventory and not replace it. You’ve possibly just generated $40,000 in capital.
- Increase sales. It’s the obvious way to bring more cash into the business.
Angel investors and venture capitalists
An alternative to borrowing is to find investors. Some options include:
These are people wanting to invest in local businesses, and can be business partners, suppliers, or other successful business owners (usually with experience in your industry). The best time to approach angels is when you can clearly demonstrate that their investment will help grow your business. You need to be ready to discuss your business’s financial projections, its current and potential value, your competitors, any protection you have over your products or services, and how you want to structure a deal with an investor. Make sure you have all your paperwork in order such as your accounts, IP ownership, and contracts with staff and suppliers. Most importantly have your one-page executive summary ready.
Venture capitalists typically invest in young companies they anticipate will be sold to the public, or to a larger company, at a high rate of return. If your business is in a fast-growing industry with a large market potential, you may just catch the eye of an investor.
Like angel investors, venture capitalists (VCs) provide funding in exchange for a share in your company. Unlike angel investors, VCs invest on a much larger scale–typically millions of dollars. They rarely invest in an untested idea, preferring businesses that can demonstrate rapid, consistent growth and guarantee a worthwhile return. As shareholders, venture capitalists earn a portion of annual revenue–but the real profit isn't made until the company is sold.
Government grants and subsidies
It’s always worth checking out what the government can offer you. Mostly, this type of funding comes in the form of grants. Governments at all levels want your business to succeed, so they create programs to supply tax breaks, wage subsidies, or loan guarantees.
It’s always worth approaching friends and family too, especially if they’re in business for themselves since they’ll understand your plans and your business needs. Borrowing from friends or relatives usually means less strings attached, and a less stringent repayment schedule. You might consider a finance company as well, but be aware that those loans come with high interest rates. At the end of the day, a bank loan may still be your best option, especially if it’s alongside your other capital raising ideas.