Any business owner before starting any venture looks into his contingency funds and finances. They can be bank loans, Small Business Association (SBA) loans, personal credit cards. Small business owners have traditionally relied upon personal assets as the major source of support. A small business line of credit can be handy in the case of small businesses, where they work similarly to credit cards. The ease of repaying and reusing makes it a favorite among small businesses.
Importance of small businesses:-
Small businesses employ more than half of the private sector and have generated a huge number of jobs. Small business strategies are a part of the larger business strategies as they create vital local jobs and provide essential services and products to the local communities. Studies show that typical small businesses hold enough cash in reserve to last 27 days. This vulnerability of cash flow prevents small businesses from taking the next big step.
Why is the financing necessary?
- When the demand for your product or service grows, additional funds will be needed to handle increased orders. This could lead to purchasing inventory, hiring additional staff to fulfill the orders. The business wouldn’t be paid till the service is delivered. In this situation, financing would cover the costs of completing the work.
- Having outgrown the current locale, the unit can look for new locations to expand its business. Expansion to new demographic markets requires additional capital to support the growth.
- An expanding business needs capital to hire additional staff. New advertising and marketing strategies also need money to supplement this growth.
What do you mean by lines of credit?
A business line of credit is a bountiful means of financing business growth. They are of two types – secured and unsecured lines of credit. An unsecured business line of credit doesn’t involve any collateral, unlike the former line of credit. The best part is every payment is 100% tax-deductible. The borrower doesn’t need to make any payments until the business draws upon the credit line. Once the money is repaid, the amount replenishes itself automatically and is again, available. Lines of credit are used to manage the indifference in the timing of cash flow between expenses and revenue. They augment a firm’s working capital.
Who can acquire an unsecured business line of credit?
Any businessman with a good track record and personal credit scores can avail of this option. This credit option is not difficult to obtain, with typically faster approval and funding. It can be viewed as ‘temporary’ funding. It is especially helpful when there is a lag between incurring costs and receiving revenue. Most importantly, there is no penalty for early repayment. You can use this unsecured line of credit repeatedly as it is revolving. You do not need to use it at once. This small business line of credit makes a great, long-lasting solution for a short-term cash crunch. Borrowing limits are usually smaller than term loans. Such flexibility helps to cover gaps in payroll, operating costs, unplanned expenses, and inventory purchases.
What are the viable uses of a business line of credit?
Lines of credit primarily deal with bridging cash flow gaps due to late-paying customers and off-season business cycles shipping from china to usa.
- Late payments, especially stifle the growth of small businesses. Late-paying customers create a major cash-flow problem. Due to this, small businesses are not able to obtain big customers as they require more capital to service.
- Fluctuations in income on a daily and yearly basis make it difficult to ascertain future cash demands. Businesses also need funds to maintain infrastructure and buy pieces of equipment. All these problems are solved by securing the unsecured line of credit, to avoid the bumps and uncertainties.
- It is not just about filling the gaps but the flexibility to react to changes and pursue new initiatives.
- From the third point, the obvious next argument that follows is to fund to not just stay afloat but compete and market your product and services. 19% of small businesses that fail complain that they were out-competed and didn’t have the money to advertise. An unsecured business line of credit takes care of this.
- Smaller companies, as compared to the bigger ones, have the merit of acting faster and do not depend on approval cycles. They can leverage the power of the community and provide personalized services that big companies fail to provide. In this case, lines of credit are crucial to invest in research and develop a new product line, alongside tapping into new markets and new suppliers.
- Line of credit can be used for any legal business-related expenses. As mentioned earlier, the fund doesn’t just push through slow periods but can be effectively used for various other purposes. From investing in faster pieces of equipment to paying for labor, and maintaining uninterrupted supplies.
What are the requirements to get a small business line of credit?
- Collateral
- Operation time for business
- Financial statement of business
- Proof of revenue
- Economic ratios, that include debt-equity, current ratio, and debt service coverage ratio.
- Purported use of funds
- Business must be established with the Secretary of State for more than six months.
Where can one acquire a line of credit?
Small business lines of credit can be acquired from banks and online lenders. Online lenders are less strict in terms of requirements as compared to banks. However, they might charge higher rates than banks. After approval, a line of credit is issued in a matter of a few days.
Important distinction:- unsecured vs. Secured Line of credit?
In the case of a secured line of credit, the one who borrows puts up collateral, which is as a security deposit. It can be property, equipment, inventory, etc. New businesses generally do not qualify for a secured line of credit as higher risk is involved. An unsecured business line of credit, on the other hand, does not come with the baggage of collateral. In this case, the lender assumes a high risk. This line of credit can be availed by businesses with good business credit. They are often given at lower limits and higher interest rates.
Conclusion:-
With the support of a small business line of credit, unexpected expenses and uneven cash flow cannot scar your business growth. The safety net helps your business stay afloat without being stagnant. The constant worry for funds is mitigated and one can solely concentrate on the prospects of business growth.