What Your Bankability Says About Your Business's Sustainability
If your small business is bankable and you need a loan, you'd go to a bank. But if you aren't and are considering online alternatives, be sure you fully understand the requirements of those.
Not that long ago, there was a lot of noiseand some clarity about the concept of crowdfunding, which is using technologyto aggregate the funds of donors/lenders/investors for a specificrecipient/business.
During that period, I tried to be part of theclarity by writing several articles about the three different kinds ofcrowdfunding, which are: contribution fundraising, business lending, andinvestment acquisition. Today I want to revisit the lending model, with somenew information.
Crowdfunding lending is like the traditionalkind in that a request for funds comes with the promise of repayment withinterest over a specific term. Proceeds for a bank loan comes from depositors;with crowdfunding, the cash comes from investors. But unlike the bank loan, crowdfundinglending is conducted almost exclusively online. Individuals use crowdfundingloans, but our focus here is for business borrowing.
It's important to report that the termcrowdfunding is now more widely referred to as FinTech, because the interfaceprocess, from borrower introduction and debt service, to return of capital forinvestors is conducted on a digital platform. At the heart of the purpose ofthis article is that regardless of the funding source – crowdfunding ortraditional – interest and terms on small business loans are always higher andtighter than for any other business sector. Almost by definition, a smallbusiness loan is a high-risk decision, for two primary reasons:
1. Most small businessesare undercapitalized and operate closer to closing than surviving.
2. Too many smallbusiness owners don't track financial performance well enough to know wherethey are on that survival/closing continuum.
In the past, my standard advice to any smallbusiness owner is to try to get a loan with a local bank or credit union,because regardless of the rate and terms, they were always the most reasonableof all options. But if you must go with a FinTech loan, the interest rate isgoing to be double-digits, as in 15%, or more. As cool and sexy as digital canbe, there's nothing sexy about paying more for a loan than necessary.
So, the only reason to use a FinTech lender isif you're unable to get a traditional loan. Being unbankable is associated withcreditworthiness, which could be a low credit score, lack of collateral,unproven business model, poor cash flow, or some combination thereof. Frankly,when those examples apply, the business is likely in some level of financialdesperation, and we all know what desperate people do. They do desperatethings, like paying double-digit interest just to try to keep a business alive.
But since crowdfunding morphed into FinTech,another online funding option has materialized: the Merchant Cash Advance (MCA)sources. These are not lenders in the traditional sense, like your bank or trueFinTech lenders. The distinction is in how their contract to provide funds isworded – they call the transaction a purchase of future receivables, not aloan.
This detail is important to note because lenders– crowdfunding/FinTech and banks – must comply with state usury laws, which puta ceiling on the annual percentage rate of the interest on the loan. But asthey structure their funding relationship, a typical MCA company operatesoutside of usury, which in some cases produces an APR well over 50%. Here'ssome tough love: You will not work your way out of an MCA transaction becauseof:
· How they withdrawpayment from your bank account – not monthly, but possibly every day.
· The fees and interestthey charge can be well over 50%.
· Their contractsinclude "confession of judgment" language that puts you at an extremelegal disadvantage the moment you take their money.
So, if you're bankable, borrow from a bank orcredit union. If you aren't, the more lenient underwriting standards of FinTechfirms could be the right option. Even at the very expensive FinTech rates, youcould work your way out of a desperate condition if you have a viable andsustainable business model.
But here's more tough love: If you find youronly option is to pursue funds from an MCA source, the next step is notcomplicated, but it is anguishing. Go ahead and lock the doors of your business– for good.
Write this on a rock ... Discovering which borrowing level you qualifyfor simultaneously locates your business on the surviving/closing continuum.However rude that indicator may be, it's just as immutably pure.