Business expansion financing would first require that you increase your current assets
You can’t grow unless you have money to invest in growth. That may seem strange at first. After all, growth is supposed to generate additional sales and profits, right? That’s true, but before you can increase sales, you usually have to increase your current assets, such as inventory and fixed assets such as a plant and equipment. Rapid growth means hiring more people, furnishing more offices and perhaps renting new quarters. Since there’s usually a time lag between the moment you need to invest in growth and the moment you receive the resulting sales and profits, you need money before you can grow.
Business expansion financing can take many forms. You can use your own money, borrow from friends and family, use internally generated funds, approach equity investors or tap banks and other lenders.
The sources for business expansion financing are generally the same sources you may have used to start your business. In many cases, you’ll go back to the same sources to pay for expanding your company. The good news is that it’s easier to fund growth in an existing business than it is to fund a startup.
Types of Business Expansion Financing
As you learned when you were looking for startup capital, there are many places to go when seeking money for business expansion financing. As you probably also learned, only a few of those places are right for any given business. Selecting the right type of business expansion financing is largely a matter of matching your needs to the restrictions of the source. Each type of business expansion financing has its own strengths and limitations.
Self-financing in the form of personal and family savings is the No. 1 form of financing used by most small-business owners. It’s low-cost and has other advantages. For instance, when you approach other financing sources, such as bankers and venture capitalists, they’ll want to know exactly how much of your own money you are putting into the venture. After all, if you don’t have enough faith in your business to risk your own money, why should anyone else risk theirs?
Here are some of the sources of personal and family financing you should consider for growing your business:
- Personal line of credit, including credit cards: Although credit card financing is expensive, it can work for emergencies and small amounts.
- Home equity loan secured by your personal residence: Interest rates are low, but you may lose your home if you can’t repay.
- Cash-value life insurance: Interest rates are reasonable on loans against cash-value policies, and you don’t have to make payments because the loan will be repaid from proceeds of your insurance in the event of your death.
“Friends and Family” Financing
Friends, relatives and business associates are popular sources for financing the growth of small businesses. There are two main advantages to friends and family financing. The all-important issue of the character of the borrower is moot – these people already know you. Depending on who you’re borrowing from, repayment terms may be extremely flexible, and you may not even have to pay interest.
The downside is that, if worst comes to worst and you can’t repay the loan, the people who will be hurt will be friends, family and business associates. Make sure you explain the risks involved in investing in a growth business before accepting financing from friends and family. Otherwise, their wish to help you out may lead them to do something that could damage your personal relationship as well as your mutual finances.
Internally Generated Funds
One of the most advantageous ways to get business expansion financing is through earnings your business is creating and that you retain. The only cost to using retained earnings is the interest you would receive if you kept the earnings in a bank account. Since this amount is likely to be much less than you will earn by successfully investing the funds in growing your business, plowing retained earnings back into your business is usually a smart move.
One risk to financing with internally generated funds is that you will divert too much of your current profits into expanding the business. This can starve your business and create more trouble than if you financed with a more costly source or never tried to grow at all. Make sure you aren’t robbing Peter to pay Paul when you finance with retained earnings, and that your investments in inventories, marketing efforts, production staff and other outlays required for the existing business are maintained.
Bank Loans and Lines of Credit
Banks exist to lend money, so it’s no surprise that banks offer a wide variety of ways to fund growth. Here’s a look at how lenders generally structure loans, with common variations.
- Line-of-credit loans: The most useful type of loan for the small business is the line-of-credit loan. This is a short-term loan that extends the cash available in your business’s checking account to the upper limit of the loan contract. You pay interest on the actual amount advanced from the time it is advanced until it is paid back. Line-of-credit loans are intended for purchases of inventory and payment of operating costs for working capital and business cycle needs. They are not intended for purchases of equipment or real estate.
- Installment loans: These bank loans are paid back with equal monthly payments covering both principal and interest. Installment loans may be written to meet all types of business needs. You receive the full amount when the contract is signed, and interest is calculated from that date to the final day of the loan. If you repay an installment loan before its final date, there will be no penalty and an appropriate adjustment of interest.
- Balloon loans: These loans require only the interest to be paid off during the life of the loan, with a final “balloon” payment of the principal due on the last day. Balloon loans are often used in situations when a business has to wait until a specific date before receiving payment from a client for its product or services.
- Interim loans: Interim financing is often used by contractors building new facilities. When the building is finished, a mortgage on the property will be used to pay off the interim loan.
- Secured and unsecured loans: Loans can be secured or unsecured. An unsecured loan has no collateral pledged as a secondary payment source should you default on the loan. The lender provides you with an unsecured loan because it considers you a low risk. A secured loan requires some kind of collateral but generally has a lower interest rate than an unsecured loan. The collateral is usually related to the purpose of the loan; for instance, if you’re borrowing to buy a printing press, the press itself will likely serve as collateral. Loans secured with receivables are often used to finance growth, with the banker lending up to 75 percent of the amount due. Inventory used to secure a loan is usually valued at up to 50 percent of its sale price.
- Letter of credit: International traders use these to guarantee payment to suppliers in other countries. The document substitutes the bank’s credit for the entrepreneur’s up to a set amount for a specified period of time.
Enterprise Financing Schemes
Despite what you might see on some websites, none of the Enterprise Singapore’s loan programs involve free money, government grants or no-interest loans. In fact, the Enterprise Singapore doesn’t even lend funds directly to entrepreneurs–you’ll need to strike up a relationship with a loan officer to access the programs. But once you do, there’s an array of resources aimed at getting you the capital you need to start for business expansion financing.
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