Debt has a bad reputation. And with all the chatter among political candidates about a student loan crisis, with the total student debt topping a record $1.5 trillion and the average college graduate holding over $31,000 in debt (according to credit.com), it is easy to see why.
Not all debt is bad or created equal, however, and for entrepreneurs trying to grow a business, it can definitely be one of the most powerful tools in your arsenal.
Why then do so many entrepreneurs avoid debt and insist on grinding out the business on slow revenue growth and personal savings? For most that I consult, it typically has nothing to do with economics, but rather security and the ability to sleep at night knowing they owe nobody money.
That reason is fine, and indeed difficult to dispute, but when you study and understand the implications and benefits of leveraging debt for your business, you will see that it can actually create a level of security that can help relieve other stresses.
And if you need evidence of just how useful debt can be, look at Apple as an example. According to CNBC, as of the 2019 Q2 financial report, Apple had $224 billion in cash. That it not total assets -- buildings, inventory, etc -- but rather cash and cash equivalents, meaning that if the Apple CEO, Tim Cook, took his debit card to the ATM, he could theoretically withdraw that amount -- although there are not enough $20 bills in circulation to complete his transaction.
The same financial statement also reported that Apple carries over $93 billion dollars in debt. Given their cash holdings, why wouldn't Apple just pay off their debt? They would still have $131 billion dollars in cash.
The reason is simple. Apple has plenty of cash to grow the business, and they allocate their cash for just that purpose, but if a financial institution or their vendors are willing to extend credit for reasonable terms (10 percent for example), and Apple can invest that money to grow the business at a higher rate of return (20 percent for example), it costs them nothing.
Now, not all businesses have a few billion dollars on hand to qualify for reasonable loan terms, and indeed banks these days really won't lend money to companies until they no longer need it. If you are able to secure and leverage additional money to grow your business, however, and combine it with your personal resources, the result could be exponential to your business.
Moreover, there are many benefits to leveraging debt rather than what others see as the alternative: equity partners.
No lost equity. Debt typically does not have an equity component (unless you consider convertible debt), so you do not dilute your equity holdings or that of your partners.
Interest is tax deductible. In addition to leveraging to grow your business, all the interest you pay is a deductible write-off on taxes.
Faster and easier. Raising capital through an investment can be a very long and tedious process, and the result is very difficult to break. With debt, the process and the paperwork is simple, and your "partnership" ends when you pay off the loan.
Of course, there are drawbacks that need to be considered.
Required payments. Debt requires you to make regular payments, most often monthly, and banks these days are far less forgiving and flexible when it comes to late payments.
Covenants. Loans are often made with an expectation in mind. If you do not use the loan in the way that you had communicated to the bank, then they can require you to pay it back immediately.
Personal guarantees. Without assets and collateral (and sometimes even with these), banks will require you to commit to a personal guarantee, which could end up haunting you long after the business.
Forced bankruptcy. After the global financial collapse a decade ago, banks are much less forgiving to entrepreneurs who miss a few payments. Miss a few too many, and creditors can force liquidation proceedings to recover their money.
With all of this said, it is worth disclaiming that I am not a financial planner, so any financial decisions you make should be made with the close consultation of your own significant other, financial planner, accountant, attorney, and spiritual advisor -- in that order.
Many entrepreneurs enjoy the peaceful sleep they have when not worrying about debt service and the stresses of debt management, and I completely understand and empathize with this. For those entrepreneurs who can manage the stress, however, and have promising growth ahead of them, leveraging debt to maximize that potential is a great way to spark the growth you seek.