The Basics – Managing Small Business Debt
By Stewart Brannen
Most business owners today would agree that one of the critical elements to achieving success is the ability to grow their businesses. Some entrepreneurs like to grow organically (slowly and with their own resources) and enjoy the fruits of their labors without any creditors being involved. In situations like this, they have the personal means to control the speed of their business growth and its profitability. These business owners are comfortable with their own way of doing things. I call this the micro-flight approach and I salute all business owners who can do this.
On the other hand, we live in a fast-paced world where opportunity, timing and a multitude of variables can come into play, affecting business strategies for growth. This can translate into considerable debt for many small business owners. The critical element in this choice is being able to manage these investments prudently. So let’s take a look at a couple of scenarios:
Scenario 1: Army Surplus Store Owner Joe Johnson
Joe is humming along in his day-to-day operations and recently recognized a particular niche in the marketplace that is not being serviced. He knows he can successfully develop profit from this venture. Joe explores all that is involved and determines that he will need an additional $50k to go after this opportunity and creatively comes up with a plan. He successfully negotiates a personal loan from a family member for $10k, taps an additional $10k from a credit card, and utilizes another $30k from an existing line of credit with his local bank for the full $50k. He launches full speed ahead, invests the entire $50k into the opportunity only to discover that the market he had thought was ripe for development is bust. Joe is now left holding the bag for $50k in debt that his business cannot support with its existing cash flow. What does he do?
Depending on Joe’s credit history, he might be able to renegotiate the entire $50k amount with his banker, and in turn consolidate each of the loans into one lump sum and pay it down on a monthly basis. The moral of this story is that we can be blinded by opportunities and go after the money needed, but in doing so, not give too much thought as to the payback terms, especially if the deal goes south. Also, when multiple creditors are involved, it is called spider-webbing, and when a business owner gets into a cash crunch due to slow sales, the payments start to get increasingly tangled and complicated. This makes it much harder to manage a strict budget and know where your money really stands.
Important Lesson – minimize the number of creditors you have!
Scenario 2: Army Navy Owner Jane Miller
Jane recently purchased a surplus store and is full-steam ahead with a revitalized marketing plan and a refreshed inventory of women’s apparel that she believes will transform the sales of her newly-owned business. The cost to do all of this is about $25k and Jane has gone into debt (above and beyond) her own home mortgage to finance the purchase of her business. She just needs a little more working capital to get her to the sales level she needs. Jane has maxed out all of her credit cards and is barely covering her monthly cash flow expenses for the newly-acquired business. What does she do?
She may have to delay her growth plans by getting her credit card debt under control. While there are many methods of achieving this, a simple one is to contact the creditors directly and explain to them that she needs to work out an alternate payment plan. Depending on her credit history, the creditors may be willing to renegotiate the terms on the amount she owes, which will in turn reduce her monthly payments. Every bank and every credit card provider is different, but depending on Jane’s monthly expenses, she may be able to cut her monthly payments in half and reprioritize where she spends her money in the business. The lesson here is to only take on what you can afford in the first place.
Now that she has her credit card debt under control, that 50% savings that she has been able to achieve can be further bolstered if she takes a serious look at her overhead expenses. A key aspect of managing debt in a business is to spend prudently. Being penny wise always sets the stage for having more dollars in the bank when a rainy day happens, and considering the current state of the economy, a rainy day can happen at any time.
Important Lesson – when you accomplish a financial goal in one area, look for other areas to control costs so that you can keep your debt obligations under control.
Managing debt is all about being responsible and making informed decisions. The key is to challenge yourself as a business owner to be responsible in the first place, keep an eye on waste, and ask lots of questions (to get the right information) so that you can make the right sort of decisions. Onwards!
Stewart Brannen is a faculty member teaching business and finance at Cleary University. He also has a private consulting practice. To learn more about his background and credentials, please visit his profile on LinkedIn.