Things to consider before taking on debt financing
Many business owners automatically assume that they will need to take on debt financing when they need additional working capital. However, it is important to take the time to carefully consider if debt financing is right for your business before you begin applying for a business loan. Successful business owners will take their time to look at the different considerations of taking on debt financing and their other options before they just begin applying for a business loan. The bottom line is that when you take the time to carefully plan you are much more likely to end up the type of business financing that will benefit your business the most. Here are some things to consider before taking on debt financing-
- Determine exactly what you need the additional financing for-One of the most common mistakes that many business owners make is they don't really have a clear idea of what they need debt financing for. They often assume they need more money but are not always sure why. You will need to be able to clearly identify what the money will be used for and if the cost will be fixed or variable. This will determine how much of a risk your debt financing is for both you and your lender.
- Determine the state of your current accounts receivables-Your accounts receivables will play a big part in how you will be able to repay the debt financing. You will need to take the time to go over your accounts receivables, determine how much you have, and how old they are. When you have this information in hand you will have a better idea of how much cash inflow you can use to repay the loan you want to take. You may want to consider offering your late paying customers an incentive in order to get their account paid. It is also important to determine if your accounts receivables policy is the same as your competition.
- Determine if the age of your business will affect your ability to repay-It is important for business owners to understand that debt financing can be dangerous for a new business. In fact, the newer your business is the more risk it takes on when it assumes debt financing. Most new businesses have a lower cash flow which can jeopardize their ability to repay debt financing. If you feel that you need to use debt financing keep mind that it will be much more beneficial if your business can wait and grow onto stronger financial footing. The bottom line is that over time (with debt financing), the tax advantages go up, the risk of failure goes down, and the business cash flow becomes more predictable.
- Determine if another type of financing is better for your business-Business owners should understand that while debt financing has often been the most traditional way to get additional working capital it is by no means the only way to do so. Today, business owners have other options when it comes to getting the money that they need. If after careful consideration you decide not to pursue debt financing you may want to consider equity financing for your business. This is where you sell shares of your business in return for an investment. One of the major advantages is that if your business fails you will not be required to repay the investment. In addition, many business owners have turned to using a combination of both debt and equity financing. This is known as hybrid financing which offers the advantages and disadvantages of each type of financing but can often be an effective solution for the business owner who needs more working capital.