Businesses have multiple options to get capital, usually requiring less upfront funding than the former options. The type that best fits your business depends on its nature and short and long-term goals. The most common types of financing are:
Loans from a financial institution
A loan from a bank or a pawn shop is the most common type of financing for businesses. The interest rate on a loan is typically fixed, and the loan must be repaid over a predetermined period. Your business must have a good credit history and provide detailed financial information to qualify for a loan.
A term loan is a loan repaid over a fixed period. These loans are typically used to finance short-term needs, such as inventory or equipment purchases. Term loans usually have a lower interest rate than revolving lines of credit, but they also require you to commit to a specific repayment schedule.
Line of credit
The interest rate on a line of credit is usually variable, and the amount you can borrow depends on your credit history and the size of your business. A revolving line of credit, as the name implies, can be used any number of times up to a predetermined limit.
Factoring means selling invoices from customers for less than their face value to get quick cash from the sale. Some companies will pay small businesses cash for their invoices, usually at around 75% of the original value. Once your accounts receivable have been factored in, you can use the cash to fund day-to-day activities or wait for normal payment terms on all outstanding invoices before receiving payment from the factoring company.
The Small Business Administration guarantees loans by banks and other lenders willing to provide financing to small businesses that would otherwise be considered too risky. Banks typically require a first lien on your assets as collateral for an SBA loan. Because they are government-backed, SBA loans often offer more flexible repayment options than traditional bank loans.
Leasing is an effective way for businesses with limited capital to make large equipment or machinery purchases while retaining ownership of their assets. You do not need to use the asset for the entire lease period and in the end, you can either continue leasing it or purchase it outright.
Purchase order financing
When a business is waiting for an invoice to be paid, it can use purchase order (PO) financing to get cash immediately. PO financing allows businesses to borrow money against the value of the goods that have been ordered but not yet delivered. The lender will give you a loan based on the purchase order amount, and you will then pay back the loan once the invoice has been paid.
Angel investors invest their own money in a startup or early-stage company in exchange for ownership equity. They are often former business owners or entrepreneurs who have the capital and expertise to help a business grow.
Crowdfunding is the process of funding a project or venture by raising money from a large number of people, typically through the internet. Crowdfunding platforms allow individuals to donate small amounts of money to support a project or campaign. In exchange, donors may receive rewards, such as products or experiences related to their funding project.
There are many ways to finance a business. Each form has its advantages and disadvantages, so it is important to carefully research all possible options before making a final decision. The lender will request a first lien on your assets in many cases.