Does your neck hurt from the Wall Street whiplash? Feeling beaten up by all the bad economic news: new recession fears, confidence crisis in the Euro-zone, uncertainty over what’s coming next for the economy?
Imagine how a small business owner feels! Many small businesses are hanging in there during these tough times, still needing to hire new people, to buy inventory, and even wanting to grow. They need a loan because they know they can make it, but they can’t get a bank loan. In fact, a recent Wall Street Journal article quoted a study done in May by MultiFunding LLC, a Pennsylvania state-up that helps small firms get financing. The study found more than half of the 250 small businesses it analysed weren’t qualified for traditional bank loans and would need to seek funding from other sources. If they did qualify, the study found because of the risk, those loans would hit more than 23% in annual interest and fees.
Why can’t small businesses get a loan? First, because after the financial crisis, banks are more cautious about businesses they lend money too. In addition, the traditional banking approach is that if you want financing, a small business must have been in business for two to three years, be profitable and have an accepted business model. Clearly, even without the financial issues of the past few years, many firms which opened recently wouldn’t quality. So, because the banks won’t loan money, small business owners are forced to look at alternatives.
There are a range of alternative financing methods to choose from. Some business owners are looking to what are called merchant cash advances, a practice that first appeared about a decade ago. This service provides capital in exchange for a share of future debit or credit card sales. This is used quite often by retailers, restaurants, and other small businesses where a large number of customers pay with cards. Providers usually charge between 8%-10% of gross sales against the advance.
Some U.S. franchisers are trying to help their franchisees secure financing by hiring executives whose primary job is to help franchisees get loans. Other franchisers are turning to outside help; signing up with web services that match lenders and borrowers. Other franchisers are hiring firms to produce what are essentially credit reports on each franchisee. The reports describe how a franchise system works along with its business strategy and plan for growth. These reports are provided to financial firms to help them understand how a franchise works and show banks and other lenders the risks as well as rewards of lending to a franchise.
There’s also the practice called “Invoice Discounting”. Invoice Discounting has been around for decades and is used extensively by companies large and small in Europe, as well as with large corporations in the U.S. However it is gaining popularity with small businesses in the U.S., and just like the process I discussed above called merchant cash advance, invoice discounting is seeing more growth as Wall Street wobbles. Invoice discounting involves providing capital in exchange for buying a portion of a company’s verified receivables. A business can have cash in hand within 2-4 business days. This form of short-term financing offers small business owners the opportunity to access cash quickly without having to wait for their outstanding invoices to be paid. There are also no worries about borrowing against future sales. In addition, this service can be used as needed and repeated.
With recent reports from the Congressional Budget Office as well as several economics predicting a very slow economic recovery, and very little real growth until perhaps 2013, there’s no doubt small businesses will be in need of alternative financing sources for a while.