One of the key elements in starting or growing a business is to reduce debt
Debt reduction strategy is important for all business-owners if they want their business to not only survive, but thrive and grow. One of the key elements in starting or growing a business is developing a comprehensive financing, as well as debt reduction strategy. A long-term plan can help reinforce short-term spending discipline and reduce the likelihood your business will burn through capital too quickly.
Creating a capitalisation strategy requires an understanding of the business activities your company plans to finance, estimates of how much these activities will cost, and knowledge of appropriate sources of financing.
Running the Numbers
Once you understand the business activities you need to finance, you can develop an annual budget and estimate your capital requirements for at least the next two years. Many experts recommend planning for worst-case, realistic, and best-case scenarios. This approach may decrease your likelihood of underestimating your capital requirements, which could cause you to run out of money or pass up potential opportunities.
You may want to consult outside sources (such as your accountant) to ensure your budget is as reliable as possible. A professional association that represents your industry may have information about standard costs, margins, and financial ratios.
Sources of Capital
After researching your capital needs, you’re ready to consider potential sources of funding. The table below explains sources that entrepreneurs frequently use and the characteristics associated with each.
|Company profits||Allows owner maximum control of business.||Not feasible for start-up or early-stage company. May be inadequate to finance significant long-term expansion.|
|Business owner’s personal resources||Owner maintains control.||May require business owner to increase personal debt or jeopardize long-term goals such as a secure retirement.|
|Family and friends||May provide flexible terms.||May lack business expertise or be inadequate for long-term needs. Could potentially risk jeopardizing relationships.|
|Loan from bank or commercial finance company||Frequent source of short-term financing. Loan officers may have broad business experience and provide assistance with financial issues.||May be reluctant to provide long-term loan or to finance a start-up company. Requires collateral to secure loan agreement.|
|“Angel” investor who finances small businesses||Typically a former entrepreneur or executive, investor may possess considerable management expertise. May provide access to business associates and other investors.||May desire active, involvement in the business, resulting in less control for the entrepreneur.|
|Venture capitalist||Does not require additional debt, providing the business owner with financial flexibility.||Often necessitates a higher rate of return than lenders because there is no requirement to make current payments.|
Special Considerations for Start-Ups
If you are estimating capital needs for a start-up business, plan on maintaining sufficient funding to cover anticipated expenses for at least six months. Most start-up businesses are not profitable and typically operate six months or longer before generating capital internally.
Also, the type of business you manage will influence your capital requirements. For example, a retail business requires inventory that must be financed before taking delivery. Many service businesses typically wait between 30 and 90 days before receiving payment from customers, which may require an infusion of capital to pay interim expenses.
The following tips are useful to reduce debt:
CREATE A BUDGET AND STICK WITH IT
Your budget should include all of your current expenses. Download a Personal Budget Planner Opens a New Window. for more information on creating a budget.
DON’T BORROW ADDITIONAL MONEY TO PAY OFF DEBTS OR BILLS, UNLESS ABSOLUTELY NECESSARY
‘Just don’t do it’, may be too drastic a move. There are times when you need to approach the various sources for borrowing money, including licensed money lenders, to keep your business afloat.
CUTTING EXPENSES IS A DEBT REDUCTION STRATEGY
Get this number by analyzing your budget and determining where reductions can be made (e.g., eating out, buying snacks and lunch at work, going to the movies, etc.). Once you have determined how much you plan to cut, use this “found” money to pay down the balances on your debts.
OPTIMISING YOUR MONTHLY PAYMENT CAN BE ANOTHER DEBT REDUCTION STATEGY
Pay the maximum amount towards your highest interest rate debts. Pay the minimum amount on all other debts.
ASK FOR REDUCED INTEREST RATES
Some creditors, especially banks, will reduce your interest rates if you just call and ask. If you receive offers from other lending agencies with lower interest, use those offers as leverage when you are re-negotiating your rates with your current creditors.
SET GOALS AND PRIORITIES
Determine what’s important. When you prepare to buy something ask yourself if this purchase is in line with the priorities you have set, and will it help you reach your goal or delay it.
DEBT REDUCTION STRATEGY WOULD REQUIRE YOU TO CRUNCH THE NUMBERS
Calculators are very useful tools to help you determine the amounts you should be paying towards each of your debts and calculates the money you will save by paying your debts in the recommended order.
A good strategy to reduce debt is to be diligent and disciplined until all your excessive debts are pad off.
Small amounts of overdue debt can spiral into something huge and seemingly uncontrollable. Having overdue debts can be a frightening prospect as it can take on a high compound interest rate. With patience, responsibility and deliberate actions taken, you can trim your outstanding overdue balances gradually and better manage your debt.
To better manage and reduce debt, you have to be active, consistent and punctual when making payments. Any failure to make full payments will incur a minimum fee and interest rate charges, therefore it is best to pay on time and in full. If you are having difficulty doing so, you should look to limit your expenditure and maximise the repayments you are able to make to credit lenders. When faced with repayment to multiple credit facilities, it would be wise to prioritise those with higher interest rates first.
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