Last month on the SV CPA Services blog, we discussed the outlook for entrepreneurship and insights from Julia Pimsleur’s book Million Dollar Women.
Let’s take things one step further. Many entrepreneurs concentrate great effort on increasing sales (as they should!). But what if sales are not enough? This month, let’s discuss business growth in a different context. Debt, when used properly, can be a powerful vehicle for realizing your business vision. Raising equity (aka outside capital) is another way. Today, we are focusing on DEBT.
You know the old accounting equation, right?
ASSETS = LIABILITIES + EQUITY
We all want to increase assets. Net profit directly increases our bank account balance. What if you are early in your business with few assets and customers? You probably contributed some form of capital, or equity, to start the business. But if growth doesn’t happen as quickly as anticipated or expenses are higher than original assumptions, you may run out of personal capital to fuel business growth.
Debt is a liability. It’s a promise to pay back a known amount at a future, specified date. You will pay interest expense in addition to the original amount borrowed. The interest rate varies widely; factors include the length of time you’re in business, your business and personal credit history, debt term, etc. Obviously, a low rate is better. If you qualify, consider applying for an interest-free credit card such as Ink Business Cash credit card. I’m using it to fund the first 12 months of my other business, WorthyNest. Although WorthyNest is cash flow positive, I continue using this credit card because of the 0% interest rate. When the interest rate spikes in August 2017, I’m ready to pay this balance in full before the normal 14% rate applies.
As an early service-based business, I don’t see a need to incur additional debt. However, not every business is structured the same. There are plenty of product-based businesses that require specialized equipment, large workspaces, additional employees to carry out the firm’s mission, or all of the above. They often need millions in sales to generate even a small profit. Industry examples include consumer goods and technology. Venture capital and private equity investments may not be attainable – especially if the market is already crowded or the founder doesn’t have great pitching skills.
Here are five actionable steps you can take to apply for a bank loan:
1. Get your finances in order.
If your business is new, loan officers will want to see detailed forward-looking financial projections. They may also require evidence of key contracts already won or previously-committed investors. For established businesses, ensure your books are accurate and up-to-date.
2. Consider an intermediary.
Finagraph is a free tool for business owners that takes your accounting data and provides a high-level view of your business health. Finagraph serves as a loan intermediary between you and the bank.
3. Win clients and use them as collateral for the loan.
Don’t take it from me. I recently had the privilege of attending PWE Startup Accelerator’s Demo Day. Five women-owned companies within Prosper’s accelerator program pitched to the audience, comprised of investors and community members. One of my favorite businesses was SOCIAL Sparkling Wine®. Founder Leah Caplanis turned to homeopathic solutions during her battle with thyroid cancer at age 26 and became vegan. Now cancer-free, Leah created an alcoholic beverage that is gluten-free, organic and only 88 calories per serving. At Demo Day, another entrepreneur asked Leah how she managed to grow so quickly and gain major traction with grocery retailers. Leah’s reply: “I focus on the pitch to the grocer and secure the contract. Then I use that contract as collateral for the loan.” Simple, right? :-)
This strategy is effective for food producers trying to secure space on grocery store shelves. It’s also a good lesson. If you are a product-based business solely relying on individual consumer sales, you’ll have more difficulty securing a loan because you must attract thousands of individuals to your product. Instead, develop corporate relationships. For a product priced at $8, you need 2,500 single sales to equal one corporate account worth $20,000.
4. Network like crazy.
Suppose you exhausted the measures listed above and are still having difficulty with loan approval. Time to think outside the box. If you have a decent sized network, re-connect with people you haven’t seen or met recently. Even if they are not in your specific industry, they may know someone who can help you. Aren’t we all connected by six degrees of separation?
5. Consider collaborations.
A perfect example of this is my friend Lisa, founder of Big Heart Tea. Lisa’s company was previously known as Retrailer. At the Big Heart Tea launch party last month, she was serving Cup of Sunshine – a custom ice cream flavor made in collaboration with Clementine’s®. The flavor was so good that Clementine’s opted to keep it on their creamery menu permanently.
Outside of these five suggestions, do you have any others related to debt financing? If so, please provide them in the comments section below.
And please stay tuned for my next article, a deep dive into venture capital and equity financing for business owners.
Until next time,
Deb Meyer, CPA, CFP®