Debt is a fact of business life — and there is no shame in borrowing — but when cash is low and panic is high, and every lender becomes an alluring exit to a small business's financial problems, then it spells trouble.
Every business owner knows the anxiety close to month-end. Salaries are due and suppliers need to be paid — and then something happens; we go blind. No longer can we see the practicalities or the options in front of us — let alone solutions. Instead, we grab as many life jackets as we can and swim like crazy. But our business is only in crisis when we have not taken measures to plan correctly.
So what do we do in crisis: we call the lender. The rise of fintech and microfinancing makes the lending landscape look like an easy way out; independent lenders proclaim quick-fix solutions — until we read the fine print, which often we don’t.
In desperation, the struggling SME takes out a quick loan without understanding the impact of the repayments and how interest rates may squeeze profit margins, inevitably crippling the business. This is one of the many precursors to worsening bad debt.
It is understandable that quick loans appear to be an attractive source of financing compared with traditional banks. Banks are risk averse and highly regulated, with stringent criteria such as requiring a business seeking a loan to have a minimum of 12 months in operation and sufficient collateral to cover the risk.
The low barriers of entry provided by the new financing structures are convenient, but at what cost? When it comes to cash flow and applying for loans, every business needs to do the math. Whether it’s a bank or an independent lender, there are multiple factors to consider when applying for a loan other than jumping at the low monthly repayment.
Empowering yourself as a business owner to avoid a “debt trap” is a vital part of running a business and surviving the lean times.
There is no quick fix to a cash flow constraint, but adopting borrowing strategies could save SMEs:
- The speed of the “quick quote” becomes a striking option, but it’s easy to over-commit, trying to keep up with or settle one loan by taking another. This is dangerous. Be wary of signing anything too soon. Funders outside the traditional banking route are less likely to offer comprehensive documentation so take time to do the calculations yourself, compare different lending structures to find the best fit for your business and only choose one.
- Most reputable lenders offer options to restructure your payments. For instance, repayments can be restructured so the interest is paid monthly and you have a moratorium for a few months on repaying the capital until your cash flow improves.
- Financing your business with a loan against your debtors book may initially be beneficial. But once the bank fronts you a percentage of the debtor's book and you are unable to pay, it costs you more on the interest rate they’re charging — and interest will cut into your profits.
- Watch out for “personally liable” by providing sureties. This means should your business not be able to repay the loan and you are forced into business rescue or liquidation, you as the owner will have to use your personal assets to offset the losses of the business, which could mean losing your home.
- In the game of business, and that of saving your business, keep communicating with your creditors. It is about honest, upfront communication. The worst thing a business can do is wait too long, borrow more money or hide. All lenders hate surprises.
- And even if your monthly payments may seem smaller than traditional funding structures, do the sums — you may end up paying much more than the borrowed amount without ever stabilising your cash flow.
Dealing with a regulated lender, compliant with the Financial Sector Conduct Authority and the National Credit Act, is the first port of call — the rest is planning, communicating and negotiating. Get this right and you’ll learn that debt is something you control, and ultimately survive.
* Beswick is the founder and director of business rescue organisation Fluence Capital.
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