Lifelines and Leverage: SMB Capital Lending Options and What to Know Before You Commit

November 24th, 2020 | Small Business Resources

Small-business owners (SMBs) can use debt to do one of two things: stay afloat during turbulent times or exploit opportunities to achieve exciting growth.

If you’re doing one or the other, then you’re in good company. Business owners everywhere are borrowing for both reasons now more than ever.

To decide whether (and how) to use SMB capital loans, you need to know the difference between lifelines and leverage. Then, you’ll be able to look at all your lending options in a new light, easily deciphering which ones are best for your unique situation.

How SMB capital can be a lifeline — or leverage

If you’re looking for a loan for your small or medium-sized business, then it’s for one of two reasons: Either your organization is in trouble and needs temporary help, or you want to capitalize on an opportunity that’s just beyond your financial reach. To survive and thrive, you must know the difference.

Lifelines: rescue funds that can be a SMB life preserver

A loan can be a real business lifesaver.

Research shows that “receiving a SBA disaster loan played a positive and statistically signi?cant role in determining actual revenue change and owners’ perception of revenue change” for small businesses. The researchers go on to say that government-backed loans play a role “not only at the ?nancial level, but also in the minds of business owners. Business owners were more likely to have an increased probability of perceiving increased revenue if they had received a SBA loan.”

That lifeline can make all the difference in difficult economic times like these. The Washington Business Journal reports that the recent federal Paycheck Protection Program (PPP) increased the survivability of small businesses up to 30% across the board.

Beyond Envy Boutique and Salon is a great example of this. Early on in the pandemic, the establishment was forced to shut its doors like most of the small businesses in town. Sophia Klein, the company’s owner, approached First National Bank of Omaha and secured a PPP loan to help cover the income her team was losing.

“I believe this loan helped save my business,” Klein told the bank. She described how borrowing the SMB capital impacted her team members. “This loan was able to help a total of 16 families and I will be forever grateful for that,” she said.

But SMB capital loans can do more than save you from disasters; they can help you dig yourself out of your own mistakes, too. Whether you have overlooked a big operational error, been hit with tax penalties, made a bad hire (or two), or mismanaged your own past opportunities, you can get back on track. A financial lifeline — plus your commitment to address the underlying causes of the trouble — can help.

Levers: tools for torque and traction

Sometimes, your business isn’t in trouble. Instead, an exciting opportunity lies just beyond your financial reach.

Camille Newman, owner of Pop Up Plus, knows exactly what that’s like. When a blogger’s post caused one of Newman’s dresses to go viral online, consumers snapped up her whole inventory overnight.

“I had no idea what was happening,” she recalls. “The blogger contacted me and she said, ‘Did you see the dress got featured on a wedding site?’ I called the vendor and told her to send me every piece she had. Within a week and a half, we sold out again. As we speak, a customer just emailed me about this same dress. I probably could have sold 400 of them.”

To capitalize on this rare opportunity, Newman needed exactly that — capital. Otherwise, the demand would dry up, and she’d be left wondering what her business would be like today had she been ready for the surge. To restock her inventory quickly, Newman used an unconventional source of credit as a lever. (Curious what that source was? We’ll cover it in a moment.)

Newman’s growth happened all at once. But some business owners use leverage to achieve a slow, steady, sustainable expansion. Online lenders at Mulligan Funding tell the story of John and Ellen Dean (owners of Dean Safe Company) who decided to grow by acquiring minor, low-risk lines of credit.

“These were used to purchase delivery trucks and moving equipment,” the lenders explain. “Having more equipment allowed them to scale the business, and to steadily grow.”

Within a few years, the couple had quadrupled their sales and are now raking in $10 million a year.

Resources for borrowing SMB capital

Once you know what you’re looking for, you’ll need to know exactly where to go for your lifeline or lever.

Conventional local bank and online loans

Historically, banks, credit unions, and online lenders have offered commercial loans to extend much-needed SMB capital to business owners. Usually, these loans are partially backed by the U.S. Small Business Administration (SBA). That’s why they’re often called SBA loans.

Banks don’t have transparent customer reviews like most online consumer products do. So, instead, consider the Federal Reserve’s Small Business Credit Survey, which found that business owners who borrowed SMB capital from community banks were happier with their experience than those who took on debt from large banks or online lenders.

Source: U.S. Small Business Administration

But what’s the difference between banks and online lenders like FundBox, OnDeck, and Kabbage?

On-site banks give you a human touch, working to understand your business and advocate on your behalf. Online lenders, however, automate everything from the analysis of your cash flow to the assessment of your default risk. “There are no people involved unless red flags go off,” a Kabbage representative said proudly.
Online lenders are lightning-fast. Often, they can process your application in under 10 minutes. Meanwhile, brick-and-mortar lenders must follow the same thorough (that is, cumbersome) procedures they’ve always honored. Usually, that makes for a wait time of one to three months, a substantial difference.
Brick-and-mortar banks typically offer larger-sized loans, while online lenders can accommodate smaller, snappier amounts for short-term lifelines and levers.
Traditional banks favor established businesses. If yours is a startup, you’ll likely have more luck getting SMB capital from an online lender.
Online financiers are often more open to unconventional business ideas and innovative revenue models. Mainstream financial institutions, on the other hand, prefer to loan cash to tried-and-true industries.

Rates vary between the two options (online and on-premises SMB capital loans). Local banks and credit unions are known to offer lower interest rates. However, virtual lenders don’t have the same overhead costs that analog banks must cover, so they can be more flexible with their interest rates. This means they attract first-time SMB capital borrowers with unrivaled, often irresistible promotions and seasonal campaigns.

These differences can help you determine whether to use traditional loans as a lifeline or a lever.

Merchant cash advances

Like what you’re hearing? Feel ready to apply for that small business loan? Hold up. Experts from Harvard Business School say that around 80% of small businesses that try to get a bank loan get rejected. Software publishers and even product manufacturers have spotted that demand and risen to meet it. Their solution is called a Merchant Cash Advance (MCA).

A Merchant Cash Advance is an agreement between you, your payment-processing solutions, and a loan provider. The agreement is that you’re borrowing against your future sales, not someone else’s investment in your company. The payment processor then skims a fixed or variable portion off the top of future daily income to repay that obligation. Amounts vary, but these offers cater to business owners who need smaller shots of capital infused into operations.

Examples of this source of relief or leverage include:

Remember Camille Newman of the Pop Up Plus boutique? She used an MCA lever to fuel her explosive growth, and it worked out beautifully. The capital was instantly available and required no lengthy loan application or complicated payback scheme. She didn’t even have to remember to submit regular payments.

To determine whether this is the lifeline or lever you need, shop rates. MCA providers are not subject to the same regulation that keep conventional financial institutions from overcharging small businesses for SMB capital. That means they are free to take advantage of desperate business owners who are too hurried to compare agreements.

Peer-to-peer loans

Another method of acquiring SMB capital involves getting funding straight from supportive individuals and fellow businesses. The direct connection lets both parties (lender and borrower) sidestep the required paperwork and precautions that decelerate (and often put a kibosh on) traditional loans.

Examples of peer-to-peer lending platforms include

To use peer-to-peer business loans as either lifelines or levers, first use the loans’ terms to determine (and document) exactly how and when your business will repay the SMB capital you receive. This mental exercise alone will enlighten you. Mapping your way back to an obligation-free operation shows you exactly what it’ll take — and whether your business is up to the challenge.

Credit cards

If you approach a traditional bank or credit union for a small SMB capital loan, they’ll likely hand you a business credit card application instead.

Traditional business cards give you instant access to thousands of dollars in capital to use on operational expenses. The flexibility can be a lifesaver — or a tool for instant leverage. Business cards help you keep from dipping into personal funds for corporate expenses, and that helps keep the entities (and their expenditures) separate.

Plus, business cards give you points and rewards that loans don’t offer. Cards also make it easy to keep your books organized, since these days, electronic data is easier to automatically parse, match, reconcile, and store. And finally, using business credit cards strategically can help you increase your company’s business credit rating.

Business credit cards can pose a few risks, however. Avoid carrying a high balance, since the higher interest on high debts create ballooning payments. These can quickly overwhelm your ability to pay. For example, most credit cards lure in business owners with an introductory 0% APR and then switch over to between about 13% and 27%, a rate that can quickly outweigh the benefits of borrowing.

Another hazard, ironically, is the ease with which a business card allows personal and business expenses to mix. Yes, the cards do enable separation of personal and business expenses, but they also make it easier to occasionally grab the wrong payment method when making a purchase.

When borrowing SMB capital, strengthen your lifelines and levers

There’s one last thing to know before securing financial help to survive or thrive: Sometimes lifelines sink and levers snap. The plans you make may not always pan out. In order to build a self-sustaining, profit-generating business, your processes must foster a healthy cash flow — independent of regular infusions of borrowed SMB capital.

It’s tempting to let underlying problems slide, telling yourself that loans will always be there to right your business’s wrongs. It’s a common tactic. In fact, business owners are borrowing more now than ever before. SMB capital lending — to both relieve pain and rush progress — has seen explosive growth.
Source: S&P Global Market Intelligence via the Wall Street Journal

While small business loans have proved beneficial, the harsh truth is that even with these lifelines and levers, only half of all businesses survive their first five years of operation.

Analysts are warning that the newer, easier access to capital may increase that sad ratio by luring small business owners into more debt than they can handle. So just be sure to avoid their fate by systematically using loans as the occasional lifeline and the measured lever.

And finally, always be loan-application-ready, just in case. To do that, put your business in the “low risk” category by organizing your books and analyzing your cash flow. Get started with a free 15-day trial of Neat, the mobile app that automates that work for you as you go about your day-to-day operations. Then, when you decide whether you’re ready to apply for a lifeline or a lever, you’ll have an accurate, real-time snapshot of your financials to show lenders.