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Steve Tannehill: Capital: The Holy Grail for small businesses – Part I

Entrepreneur’s Corner

Posted: April 18, 2012 1:55 a.m.
Updated: April 18, 2012 1:55 a.m.
 

“If you would know the value of money, go and try to borrow some.” — Benjamin Franklin

In almost every survey, access to capital shows up as one of small-business owners’ top needs. But capital is not a singular item;  indeed there are a wide variety of capital sources potentially available to small businesses.

In my next two columns, I want to talk about the various types of capital in the market, along with information about what sources are available to entrepreneurs today.

Ten years ago, entrepreneurs had access to a variety of capital sources. One of the most common sources was home equity lines of credit. Los Angeles home prices soared an astonishing (and unsustainable) 173 percent between 2000 and 2006, and lenders were rushing to lend money against those ever-increasing values.

At their heart, HELOCs are a form of asset-based lending, and provided a great deal of liquidity for those looking for capital to start or expand their businesses.

Another long-standing source of capital, for startups in particular, is family and friends, often referred to F&F (or sometimes FF&F). During that same period, incomes in a variety of industries were strong. This created opportunities for family and friends to invest $5,000 or $10,000 in a friend’s business to help them get going and allow them to be part of a new business.

Credit cards, always an expensive source of seed capital, were seemingly arriving in the mail, and credit limits were routinely raised. Finally, a number of banks offered loans based solely on one’s credit score. One major lender offered credit score loans as high as $100,000.

That environment is, of course, gone, and much of the easy credit that was available then will likely never return.

As a result, it’s a much tougher world for business owners looking for capital to start or grow their business. What capital sources are out there today?

 

Commercial bank loans

Bank loans have always been limited to a certain segment of the small-business world — in essence, there has to be have an entity that, as it exists today, has the capacity to pay back the loan.

That means the business has to have a proven track record and the ability to pay back the loan with current cash flow, and/or there have to be assets or others tied to the loan that have that ability (e.g. a personal guarantee).  Most startups or new businesses don’t yet fit the profile for a bank loan.

 

SBA-guaranteed loans

 The Small Business Administration provides loan guarantees that allow banks to make loans to businesses that don’t quite qualify for a commercial bank loan.

They generally offer more flexible terms and conditions.

However, in the end, these are still bank loans that require the ability as the entity exists today to pay the loan back.

 

Nonprofit lenders

Nonprofit lenders typically offer smaller loans ($15,000 - $50,000, for example), and they will often be more creative and flexible in their underwriting guidelines.

Several operate in the SCV, including VEDC and PCR.

These are still debt instruments, and, as such, they will still require the demonstrated ability to immediately begin paying the loan back.

However, they are worth exploring for early-stage companies that are generating sales.

 

Micro lenders

There are several nonprofit lenders that offer micro loans to small businesses. While the loan amounts available are small — typically about $5,000 — the application success rate is quite high, and their requirements generally are based on criteria that focus on your residency or your business size.

Kiva.org has launched a new program that provides $5,000 loans to California small businesses.

The Jewish Free Loan Association offers similar sized micro loans to entrepreneurs of all faiths in the Los Angeles metro area.

If a micro loan would make a difference in your business, then these avenues are worth pursuing, as loans are generally made based on your standing as a target business, rather than your cash flow.

 

Asset/receivable-based lending

Often referred to as factoring, this form of financing is particularly popular in the fashion industry, but can be a resource for other industries that go a long time between placed orders and payment, such as the trucking industry or temporary staffing agencies.

As with any form of financing, prices will vary and there are often a mixture of fees, terms and rates.

My next column will look at non-debt and newer sources of capital  — stay tuned.

Steven Tannehill is the Director of the Small Business Development Center (SBDC) hosted by College of the Canyons. Tannehill’s column reflects his own views and not necessarily those of The Signal. For more information about the SBDC please visit www.cocsbdc.org or call 661-362-5900. To make an appointment with an SBDC business advisor please email sbdc@canyons.edu.

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