When it comes to small business financing, most business owners consider approaching their local bank for a loan. While this approach was common last century, it's no longer that simple today.

In the post-global recession years, obtaining financing for small businesses through traditional bank lending has become increasingly difficult. This is primarily due to increased collateral and performance requirements designed to limit the risk of non-repayment from the lender's perspective.

So, Where's the Money?

There are a number of alternatives and permutations available to support startups and growth for most operations. While the process of securing the needed funding often seems complex, ambiguous and generally confusing, this need not be the case.

In this article, I will provide a general overview of how to determine which strategies make the most sense relative to your business objectives and which funding sources may be available to fit those objectives. In subsequent posts, I will go into each of these various options in greater detail, including the actual process and requirements for developing a funding strategy.

Key Questions to Answer

Before you consider accessing any external funding sources, you should ask yourself these four key questions:

  • How much money do you need?
  • What do you need it for?
  • Where will you get it?
  • How will you pay it back?

Your responses to the above questions will help you to better understand your funding requirements, which will then help you to choose which source or sources you should use to secure this funding.

Typical Uses of Funds

There are many reasons why small businesses require working capital. Some of the more common reasons can be determined based on the company's stage or seasonal nature.

Uses of Funds:

Startup Phase

Growth Phase

Seasonal Venture

Organizational:
  • Legal
  • Deposits
  • Other
X



Marketing X X X
Inventories X X X
Capital Expenditures
  • Plant/Real Estate
  • Equipment
  • Fixtures
X



Working Capital X X X
Accounts Receivable

X X
Physical Improvements

X

Payroll



X
Supplies



X

Typical Sources of Funds

Prior to considering whether you should pay for any of the above expenses via a business credit card or bank loan, it can be useful for you to view small business financing sources from the perspective of claims against the business.

Equity Investor capital that goes into the business and typically does not come back out.

Personal Investment

Family Investors

Partner/Investors

Crowd Funding

Personal Credit Cards

Second Mortgage (Home)

Profits Funds gained through the sales activities above and beyond associated costs and operational expenditures.
Short-Term Debt Debt extending out up to one year.

Trade Credit

Secured Short-Term Loan

Unsecured Short-Term Loan

Line of Credit

Business Credit Cards

Accounts Receivable Factoring

Leasing

Floor Planning

Intermediate-Term Debt Debt extending out one to three years, such as a loan to purchase a truck or other equipment.

3–5 Year Loan — Secured by Business Assets

3–5 Year Loan — Secured by a Specific Asset: Vehicle, Equipment, etc.

3–5 Year Lease — Vehicle, Equipment, etc.

Long-Term Debt Debt extending out three to five years or more, such as a loan to purchase a building.

Commercial Mortgage

Secured Long-Term Loan

Once you have a solid grasp on why you need the funds and which sources are available to you, it becomes easier to develop a short-term and long-term funding strategy. In my next post, I'll talk about how to align different funding sources with specific funding needs. When in doubt, consult with your own tax and/or legal professional who will be able to offer advice based on your specific circumstances.

Read the rest of the series.

Introduction: Small Business Financing: How Can You Make the Most out of Your Options?

Part 2: Small Business Financing: How to Align Your Funding Sources With Your Funding Needs

Part 3: Small Business Financing: Alternative Sources for Working Capital

Part 4: Small Business Financing: Myths and Realities Regarding Invoice Factoring

Part 5: Small Business Financing: U.S. Small Business Administration Loan Programs

Part 6: Small Business Financing: Public Sector Funding Resources

Tags: Small Business Financing