You may have heard about the frighteningly high default rate for bank loans. This figure would probably be a lot lower if more previous borrowers understood that a business term loan might not have been the best option for their circumstances. While a business term loan is arguably the most advantageous type of business loan, it is only the right choice for certain purposes and certain conditions. The same concept applies for other business financing options. But since a business term offers more advantages, the criteria that needs to be fulfilled is considerably larger.
All small businesses could use at least a little extra funding. In most cases, there’s no reason to believe the business would not put that money to good use. This is not, however, a good enough reason to justify the use of a program that, when used incorrectly, can do the complete opposite of its desired outcome. Here are a few ways to know your beauty salon will not fall into the latter category:
1. Is Your Business In Good Shape?
A business term loan is out of the question if you cannot prove healthy cash flow and consistent revenue. You must be prepared to support debt for an extensive period of time. Your financial statements should therefore not contain any information that would make you (or the financial institution) think otherwise. At first, this seems like common sense. “What kind of business leader takes out a loan without healthy cash flow?” you might think. Plenty of small businesses, especially beauty salons, have cash flow problems due to uncontrollable factors like changes in demand. Well, these businesses need additional funding, too. In today’s market, it’s much, much harder (if not impossible) to conquer these uncontrollable problems on your own.
This is why companies like United Capital Source offer numerous business financing programs for businesses with unstable cash flow or occasional dips in revenue. Programs like a merchant cash advance and business line of credit do not require perfect cash flow to be used effectively and paid back without trouble. In fact, the repayment structure for these two options is designed to accommodate a lengthy slow season or a rough month here and there.
2. Will The Function Of The Loan Increase Profits?
Business term loans are supposed to cover investments that will increase profitability or generate a strong ROI. Not every big investment does this directly. A beauty salon that intends to achieve either objective with borrowed funds might view the costs of the loan like the cost of goods sold. This will tell them if the interest rate and fees will make their products or services more profitable without significantly increasing the cost of selling those products or services.
One of the most popular examples of a profitable investment is new equipment that will be used to generate more revenue. In the case of beauty salons, this might refer to additional equipment that can be operated by new staff, or equipment that offers a new service. Marketing campaigns have the potential to increase revenue and profits as well. And like new equipment, marketing is a long-term investment, which makes it more suitable for the repayment system of a business term loan.
Profitable investments with short-term returns, on the other hand, might be more suitable for another program. Let’s say a vendor offers you a discount on inventory that you could quickly sell to maximize profitability. If the order is moderately-sized, you’d be better off with a business line of credit or short-term business loan since it would take just a couple of months to pay back in full. The quicker you pay off the debt, the more profitable the order becomes.
3. Short-Term vs Long-Term Investments
It’s important to understand the difference between purchasing new equipment and repairing or replacing equipment that your business already uses. Both scenarios can be justifiably solved with borrowed funds, but ideally not with the same program. The central purpose of repairing or replacing equipment is to maintain the flow of operations, as opposed to increasing profitability or revenue. You could categorize this as a short-term investment because operations should resume shortly after the replacement or repair is taken care of. Since business term loans are designed primarily for long-term investments, a business line of credit or short-term business loan would be better suited for your cash flow.
Start Small, Go Big
Sometimes, a smaller business loan can eliminate the obstacles preventing you from accessing a larger borrowing limit with longer terms. Do you have other debts that need to be paid off? Are you still waiting on unpaid receivables? These are the kind of problems that need to be solved before even thinking about a more substantial arrangement. These are also the kind of problems that, in many cases, are most effectively solved by companies like United Capital Source. Obtaining the perfect business loan might take longer than expected but the assurance that paying it off won’t be a struggle is certainly worth the wait.