Banks have started lending more to small businesses. The purse strings have loosened and banks like Wells Fargo (WFC), U.S. Bankcorp (USB), Citigroup (C), KeyCorp (KEY) and others are committed to increasing their lending by billions of dollars in a few years. The news comes on the back of growing signs that the economy is back on track and the small business credit crisis is a thing of the past.
Banks increasing small-business lending is a cause for celebration, but not every small business owner is dancing with joy. For many, such loans still remain out of reach, and for good reason.
But increased small-business lending is good, but it's not a panacea. In this scenario, a case for alternative financing seems like a stretch at first glance. Dig a little deeper and it starts making sense.
So why isn't small-business lending enough for many businesses?
1. Stringent Regulation
New regulations introduced to eliminate bad lending have boosted lending standards, but lowered the fraction of creditworthy borrowers. Small businesses with little or no credit history have no chance of getting a loan. In such cases, alternative financing options like crowdfunding and business invoice factoring can come to the rescue.
Getting hands on your loan amount quickly is not an option when you take a bank loan. The process is long, arduous and a test of patience. Businesses looking for financing quicker than a traditional bank can provide should not apply for a bank loan. Instead they must look for other options.
3. Second Lines of Credit
Think of a scenario where your business has already taken loan from a bank but it needs a substantial infusion of cash. You have two options in front of you. You can look for another bank loan (which in all likelihood won't be approved). Or you can look for an alternate lender who isn't worried whether you've already taken a loan. No prizes for guessing, but small businesses almost always choose the latter.
What is Alternative Financing?
Alternative financing is financing available outside the traditional banking framework. Some of the popular alternative finance options include:
- Asset Based Lending: Lenders offer secured loans to businesses for buying equipment or inventory.
- Factoring: Lenders buy a business's unpaid invoices at a discount.
- Merchant Cash Advance: Lenders pay upfront to retailers and get a share of their future credit-card sales.
Finding Alternative Financing Options
It will be a challenge to find the right alternative finance option -- not because there aren't a lot of lenders offering such services, but there are so many options.
Search for alternative finance companies on the Internet, go through financial magazines and talk to friends and family members who've already done business with such companies. The idea is to leave no stone unturned to zero in on a lender specializing in alternative finance and who has a solid reputation on the market.
Expensive, but Sometimes Worth It
Alternative financing options play no favorites. No matter what kind of credit your business has, alternative financing can ensure that you have enough money and that nothing comes between your business and its growth. What's more, you can get your hands on this financing without undergoing a deep scrutiny of your financials. That's a huge benefit in itself.
But do not miss the forest for the trees.
This infusion of money into your business doesn't come cheap. Almost all non-traditional finance options are more expensive than traditional bank loans. You have to pay back the amount you've taken, and on most occasions you'll be paying through the nose while doing so.
The silver lining is that the demand for alternative options has meant more lenders have entered the mix, resulting in more competitive product prices. The ideal way to go about choosing an alternative finance option will be to work out a cost-to-benefit analysis. If the benefits of the financing solution outweigh its costs in the long run, there's no harm in going for it.
Many consider alternative finance a solution only when banks have shut their doors on their business. But on occasion alternate options just make more sense.
A bank makes you go through a long winded documentation process; there is a period of endless wait and finally you are not really sure whether your loan will be approved or not. Not many businesses, especially small businesses, can afford an iffy outcome. They prefer taking the alternative route instead.
This article was republished with permission from TheStreet.