When it comes to credit cards, cash advances, and overdraft withdrawals, my policy is unwavering. Avoid, avoid, avoid. Small business debt on the other hand, is a whole different ball game--and one that can have a huge payoff for companies that know how to use it to their advantage.
On almost every episode of Shark Tank, I offer at least one entrepreneur a business loan or line of credit in lieu of a traditional equity deal. A lot of entrepreneurs balk when they receive an offer like this, but that's because they don't understand debt.
Far too many business owners fear debt and think that by taking on debt they're admitting that their business has problems. What they don't understand is that the value of debt is determined by how you use it.
In fact, if you've read any of my books, you know that I owe most of my success to a $10,000 loan my mother Georgette offered me back when I was running my first business out of her basement. I later sold the same business for $4 billion.
Lucky for you, I've put together this list of three ways you can use debt to your small business' advantage:
1. Keep What's Yours, Yours
No matter how good your business idea is, there's a very high chance that at some point you're going to need more money than you have, whether it's for company expansions or to purchase inventory.
When the bank account starts running dry, a lot of entrepreneurs and startups have the same knee-jerk reaction to sell off part of the business (otherwise known as equity) to a new partner. My fellow Sharks in the Tank love to make deals like this, but that's only because they lack my creativity (and integrity!). If you're considering selling part of your company for the quick cash, I urge you to think twice.
Selling equity means someone else gets to profit from all the work you've already done. You might not have debt on paper, but you'll have a permanent partner that will bother you for the rest of your business' life.
Contrast this with a loan. You borrow the amount you need and repay principal and interest over time. You don't give up any control of your company unless you default on the loan (and if there's even the slightest chance that this might happen, DON'T TAKE ON DEBT.)
Now here's the good part, and the #1 reason I prefer loans to equity deals. Once you pay your debt off, the loan disappears just like a fairy godmother and leaves you free to run your company as you see fit.
2. Leverage Your Profits
The easiest way to figure out if a business idea will be profitable is to measure its return on investment (ROI). When dealing with debt, you need to be absolutely certain that an investment's ROI exceeds its after-tax interest cost.
For example, let's say your printing company has the opportunity to sign a contract worth $20,000. The catch is that in order to meet the contract's demands, you'll need to install a new machine that costs $8,000 to buy...and you guessed it, you don't have $8000.
Debt is your best friend in situations like this! You take out a loan and pay, say, $2,000 in interest, which still adds up to a profit of $10,000 ($20,000 - $8,000 - $2,000). In this scenario, the cash flow at the end of the equation far exceeds your costs, so it makes sense to borrow the money and purchase the machine.
It's your job to do the math and make sure the profit at stake outweighs the debt and interest. If it doesn't, DON'T TAKE ON DEBT.
3. Prepare for Future Sales
A lot of successful businesses are seasonal. Take Geek My Tree for instance, a Christmas tree light company that I recently invested in on Shark Tank.
Companies like this are often extremely profitable but struggle with balancing uneven cash flows throughout the year in slow seasons. A loan gives seasonal companies the cash flow to buy inventory during their quiet periods.
For example, let's say you own a highly successful skate shop in upstate New York. Business is very slow during the summer, but you must order inventory four months in advance to ensure you have enough product for the winter rush. It makes sense to borrow money in June and receive your inventory in September, just in time for the start of the busy winter season.
Now you are in position to enjoy a huge boost in sales, repay your loan quickly with very little accrued interest, and enjoy the profits! ...and I'm sure I don't need to tell you, if you're not certain that seasonal demand will be enough to pay off your loan, its interest, and then some, DON'T TAKE ON DEBT.
Not Only Why, But Where
Now that I've convinced you why it makes sense for your business to borrow, let's talk about where to get your loan.
When it comes to taking on debt, all loans are not equal. It's absolutely crucial you find a lender that:
- Understands your business.
- Understands the logic of the loan.
- Is willing to lend you money at a reasonable rate.
- Is convenient. (This means fast service and repayment arrangements that work for you.)
Depending on your business and the type of loan you're looking for, you have a few options. If your business is well-established, you have a solid credit score, and you're in a position to offer a lot of collateral (hard assets to back up your debt), you shouldn't have trouble getting a commercial loan from most major banks.
Can't check all of those boxes? You might have better luck with an online lender.
These alternative lending companies care less about credit and more about factors like annual revenue, frequency of bank deposits, and what percentage of your business you own. There are plenty of these types of small business lending companies out there, including a few you've probably already heard of like OnDeck and my partner, IOU Financial.
In any case and regardless of where you decide to get your loan from, do your homework and always focus on the bottom line... cash flow!
If you want to learn more about how good debt can help you grow you business, my friends at IOU Financial have plenty of resources on their blog.