How to Use Alternative Lending to Finance Your Business
Raising capital can be a challenge for small businesses for many reasons. You may not have the cash flow right now to be taken seriously for a loan. You may not have been in business long enough for them to consider loaning you money. Your strong business plan may simply seem too risky. What many business owners don’t know is how to use alternative lending to finance their businesses.
Crowdfunding involves soliciting people on the internet to give your business money. This option can be particularly attractive for startups since pitching your prototype idea and getting advanced payment for the first production run could pay for that very project.
Another option is asking for money for a project and tying what the person receives to their level of funding. If they contribute money toward a book, comic strip or artwork, you could send a digital copy if they contribute a little, a hard copy if they pay more, and signed limited edition for a higher level of capital. Those who donate significant amounts of money could be given a tour of the production plant in addition to one of the first production models.
If the project sees significant traffic but no investors, you know there isn’t much interest in the idea so don’t bother borrowing money from other sources to build it.
Crowdfunding is one of the most popular financing options for media projects since there is so much competition and so little money if you aren’t already a big name. Whether raising money for a documentary, podcast series, movie or acting troupe, creative types have found that crowdfunding lets them get money from their fans while marketing the concept to the broader public. Fans may give money to support the cause reported in the documentary or send money to be listed as a “producer” in the movie credits.
Peer to Peer Lending
You have options when the bank won’t lend you money. The best alternative lending option is peer to peer lending. Here, you are requesting that a number of people loan you money. Their risk is mitigated because they are individually only loaning you part of the money. Your overall interest rate is based on your risk profile, not a credit score.
Friends and family can use a peer to peer lending site to loan the small business owner money. Going through the website allows the business owner to consolidate all the debts and payments into one system. The lenders can receive your payments electronically and without having to visit you personally. And successfully paying these friends and family through a crowdsourcing website on time generates a strong profile you can leverage when asking strangers to loan you money.
However, please note that interest rates on peer to peer lending sites can be higher than what banks would charge, but it is cheaper than funding your business via credit cards. Approval rates are high and the money is available almost immediately.
Merchant Cash Advances and Factoring
A merchant cash advance, or factoring, is when you sell your existing accounts receivable or credit card transactions to a third party for a “factor”. You are given 50% to 80% of the value of what you’re owed immediately by the party buying the collection rights for these invoices. They then collect the invoices’ full amount.
The first issue small businesses have with this model is that you have to have accounts receivable in the first place. If you aren’t drumming up a business or run a mostly cash business, this alternative financing method just isn’t an option for you. The older the invoices and the worse the financial state of the customer, the less you’ll receive the invoices. On the flipside, the value of the invoices is based on the quality of the customer and the age of the business; your own credit is irrelevant. Another benefit of merchant cash advances and factors is that there is no interest. You’re giving up a percentage of the value of the invoices, but this is cheaper over the long run than a 20% credit card loan that compounds over time.
Working Capital Loans
Working capital loans are based not on your credit but on your business’ cash flow. They let you raise money to pay for everyday expenses like payroll and other debt payments quickly. They are available through reputable financial institutions and may be an option through your payment processing company. In the latter case, a lender paid back with a percentage of credit card sales is a merchant cash advance.
One of the biggest benefits is that you’ll receive money quickly. Loan repayments are processed automatically. The downside of a working capital loan is that you’re getting money now at the literal expense of future cash flow since payments will come out of your business’ cash flow. If you’re using the money to expand the business and cash flow goes up, this isn’t a problem. If you’re borrowing against your cash flow in the hope of staying open, the working capital loan will further constrict your cash flow and potentially choke your business faster. Fees for working capital loans tend to be high. As you can see, alternative lending options are aplenty and have all their set of advantages and inconveniences, so take advice before you borrow.