Business growth is not linear. Especially for newer small businesses. Your company may be expanding year over year, it may leap ahead in one quarter, but you may still encounter slow periods where cash flow lags. The slowdown may be due to seasonality, or economic factors. Or it may be because of normal volatility in your market. Many businesses look for financing to bridge those downtimes.
We’ve seen that many of our small business clients are unable to access traditional financing.
All business suffer slowdowns. Often they need help in the form of financing to bridge the gap. Unfortunately it’s getting hard to source funds from traditional lenders.
The decline of traditional lending to Small Businesses
The funding market for small businesses has changed in recent years. Since the financial collapse, the traditional loan market has shrunk—and for small businesses, it’s simply not rebounding. Regulation, risk-aversion and high transaction costs on small-amount loans have caused the traditional lending community to turn away from the small business market. In fact, in recent years the banks are approving less than 20% of the loan requests brought to them by small businesses.
And the picture only gets darker for small businesses that have been operating for five years or less. They just don’t have the track record banks are looking for. The situation is even worse for businesses with recent credit troubles.
Even if a small business wanted to try to obtain a traditional loan they face a long and arduous process. If they need money to pay a creditor or capitalize on a growth opportunity they are going to have a problem. The banks have strict credit requirements, require extensive documentation (tax returns, financial statements, credit reports, lease contracts) and may take weeks or longer to reach a decision.
The rise of alternative financing options
The difficulty in sourcing traditional funding puts small businesses at risk. If they don’t get the loan they need their cash flow problems will likely worsen. The business can stall, making it even harder to obtain financing. In response to this crisis new alternative lending options have been developed. There are now many companies offering financing options to businesses that the banks can’t work with. Solutions include not-for-profit lending, ACH, peer-to-peer lending, crowdfunding and merchant cash advances.
What is a merchant cash advance?
A merchant cash advance is not a loan. It’s a transaction in which a company buys your future credit card sales (at a discount agreed upon by both parties), and pays you for them today.
Because it’s not a loan, a merchant cash advance is not subject to lending regulations like a bank loan. This creates several key benefits to those businesses that need money to pay creditors, bridge a cash flow slowdown or seize a growth opportunity. If you already have a merchant credit card processing account you can likely be quickly approved for a merchant cash advance—without much of the daunting paperwork required by banks. Typically you just need to show you have a suitable volume of credit card sales on a monthly basis. Even if you don’t have an account with the vendor, you’ll likely only need to show bank statements and monthly credit card receipts.
Useful for high risk businesses
The lower credit standards make merchant cash advances good tools for businesses that are deemed high risk. Banks often are reluctant to lend to companies that don’t have a five or even ten-year history. The regulations that are in place to protect both lenders and borrowers also make banks risk averse. They don’t want to deal with businesses that have been in loan default or have poor credit scores. Recent credit troubles make bank loans very hard to obtain.
That’s very different than a merchant cash advance, which is based on the performance of your business—meaning credit issues are not a factor. And because it’s a sales transaction, not a loan, it doesn’t usually show up on your credit report—so it won’t affect the health of your credit score. Crucially, you don’t need to put your assets at risk by putting them up as loan collateral.
Easy financing qualification
Merchant cash advances (especially if obtained from your credit card processor) can usually be easily obtained. They can be applied online. Whereas banks require a lot of documentation and may take weeks to reach a decision, a cash advance will be approved and paid within 72 hours. Since approval is based on business performance rather than personal credit, time in business or financials. Even credit scores below 500 can be approved.
Because a merchant cash advance is an advance against future credit card sales, repayment is more flexible than traditional loans.
Instead of a fixed monthly repayment a merchant cash advance is repaid out of a percentage of your credit card sales. That’s important for young businesses because it means repayment is tied to your cash flow. In months when your business may be slow, your repayments will be correspondingly lower. Because of that, many businesses use merchant cash advances as a tool for evening out seasonality or cash flow volatility. It can make a great bridge to get you from a downturn to more profitable months.
However, keep in mind that the interest charged on a merchant cash advance is also not regulated. Some companies offering advances charge very high rates. So do your due diligence and search for the right partner for you.
All businesses suffer slowdowns. Often they need help in the form of financing to bridge the gap. Unfortunately, it’s getting hard to source funds from traditional lenders. In response to this crisis new financing options have been developed. Solutions like merchant cash advances can inject capital into a business, even when the company doesn’t have great credit or a long track record. They help you even out cash flow volatility or capitalize on growth opportunities.