Properly financing your new, small business
by Joseph Lizio - October 19, 2009
When I graduated with my MBA in Finance I went to work with Silicon Valley Bank. Silicon Valley Bank (SVB) is a commercial bank much like Bank of America or Chase but SVB focuses on a niche market in the commercial lending world.
SVB would essentially follow venture capitalist or other private equity firms/individuals in financing new, growing businesses. When these private equity companies funded these businesses, they would own part of the equity of the company. Should the company take-off, this outside ownership could essentially be quite expensive to the company's founders and other stakeholders - image giving up 50% or more of your firm to early stage financiers. Given its expensiveness, all equity that was infused into the company was earmarked for future growth and development. It was not nor should not ever be used to purchase items for the daily operations of the company (items other than business development) - items like equipment, machinery, tools or even business office equipment like computers, servers, printers, desks, copy machines, etc., not to mention other everyday necessities like rent, utilities, insurance, payroll, supplies, etc, etc, etc.
This was one of the major reasons that we at SVB followed these private equity players into these companies. We would lend these new ventures the capital needed to fund other business requirements - requirements that should not be funded via that very expensive private equity. Our benefits included: Term loans who principal balances decreased with payment over time, low interest rates as our facilities were secured by business assets and a hands off approach (unlike VC or other private equity players who take board seats).
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In today's market, this same philosophy can be followed - even for companies that don't receive private equity funding.
Most new entrepreneurs, when thinking or seeking funding for their business, tend to focus on obtaining one, single, all inclusive loan to cover all of its needs. Now, that would be OK provided that the business only had one, single need. But, most businesses do not - especially start-up, small businesses. Most new companies need everything from working capital for marketing, development, payroll and growth to inventory or equipment - either basic office equipment like computers and copy machines to equipment for operations like machinery, tools, transportation/shipping, etc.
If your small business needs working capital, it will, for the most part, attempt to seek an unsecured loan given that the new business has yet to collect business assets that can be used as collateral. What this means to a lender is more risk. More risk means higher costs to the business in obtaining that loan. Unsecured lending rates could be as high as 22% annually and include fees of up to 5% - not to mention huge oversight and reporting requirement from the lender - all of which add unnecessary expense to the company. However, should the business be able to secure part or all of the loan with some form of collateral (called a secured loan) - interest rates would drop by more than half, fees would be reduced to nearly nothing and most reporting requirement would disappear.
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Properly financing your new, small business - Business Money Today