Managing Cash Flow: The pros and cons of alternative financing

Small and medium-sized businesses have historically had challenging relationships with traditional lenders.  When these business owners are in need of more cash flow, they are the least likely to be approved. 

If you’re a new business owner you’re going to find it difficult to obtain a traditional loan from a bank. In most cases, any of the following could prevent you from getting a loan:

  • You’ve been in business for less than two years
  • You have a credit score below 640
  • You want to borrow less than 250,000

The good news is that technology in the financial sector is revolutionizing the way lending is done and big banks are no longer the only option for SMB loans.  Alternative financing in the U.S has tripled in size from 2014 ($11 billion) to 2016 ($34 billion)*:

Pros and Cons of Alternative SMB Financing

Pros

  • More options: Shop around from the comfort of your office or home – lenders have online presences and you can often get rates with a call or an email. 
  • Lower bar to entry: Banks reject anywhere from 25 – 75% of all SMB applications.  Alternative lenders are looking at around a 95% approval rate.
  • Faster turnaround: Sometimes an SMB Owner can walk out with financing in a day.  With fewer controls comes faster processes (and higher risk). 

Cons

  • Higher fees, interest rates & penalties: Banks charge between 3% – 10% APR while alternative lenders charge between 13% and 70%. Alternative lenders are more likely to refuse early payoffs as well, preferring to collect their interest as they had planned. 

Types of Alternative Lending:

Microloans: 

If your business wants to borrow no more than $25,000 at a five-year term, you’re in luck.  The SBA offers microloans as well as a number of other microloan outlets. If your business is minority or woman-owned, you can apply to special microloan outlets focused on bolstering business entrepreneurship in your specific demographic. 

Lines of Credit

Once a line of credit is established, interest is typically calculated based on the average daily outstanding balance. Startups and new businesses can use a line of credit as a way to improve a credit score.

B2B Lending:

Which is a more traditional approach to lending. One example of B2B lending services is Fundera, an online broker which matches lenders and borrowers. Typical minimum requirements for a term loan are 1+ years in business, 600+ credit score and $90,000+ in annual revenue. 

Equity-Based Crowdfunding:

Giving up part of your business for a cash infusion can be worth it, but only with a clear view forward. With EBC, shares are valued according to the total share count and the estimated valuation of the business. 

Invoice Financing

Borrow amounts equal to up to 95% of the value of outstanding invoices. Invoices serve as collateral.

Merchant Cash Advances 

MCAs are usually unsecured with less stringent qualification requirements, high-interest rates, fees, and no option for early repayment.