Debt Financing Your Business, Featuring Encore Bank

The proverbial masses are always quick to admit that “you’ve gotta spend money to make money,” but are less revelatory when it comes to what someone might do to make money if they don't have a hefty amount of spending money folded in their back pocket. With the exception of the Kardashians and a handful of other select individuals, the vast majority of people who are looking to start or reinvest in a business will have to look further than their own backyard to get the funds to accomplish their goals. With venture capital investments already reaching record highs in the first half of 2021, it’s obvious that a lot of start-ups are considering venture capital as an attractive option. 

VC or Debt Financing? 

Infiltrating the zeitgeist in shows, movies, and of course, Shark Tank, equity financing and VC firms are not only trendy, but seem like a great deal. You get a cool advisor like Mark Cuban whispering in your ear and an infusion of capital, and you don’t have to pay back the money - ever - all in exchange for equity. All of this is true, but when you lean in to take a closer look, you’ll see a few glaring cracks in the shiny veneer facade. Venture capitalist Bradley Tusk points out in this interview that venture capital is actually not the most economical option for the vast majority of companies. Unless your business is very scalable or in a “deep tech” industry, thus requiring millions of dollars to develop and execute your product, Tusk recommends that entrepreneurs opt for the less sexy but higher-grossing “bootstrapping” route, growing and reinvesting in their business the old fashioned way without venture capital. If you’re in this majority and VC firms don’t fit your company’s needs, it’s very likely that you will come to a point as an entrepreneur where you will need to borrow money. If you’re starting to feel early symptoms of a panic attack at the thought of taking on debt, we’re going to ask you to pause and take a few deep breaths. We’ve said it before and we’ll say it again, because it bears repeating - at NEST, most of the people on our team have first-hand experience as business owners, and many of our clients are business owners as well. We understand that your business is your passion, life’s work, and your purpose. Taking on debt can provoke anxiety, but like anything, there’s a right, responsible way to do it. Our goal is to to break down and demystify the process of sourcing and securing loans so that instead of increasing your blood pressure, you can feel excited about this opportunity to grow, develop, sustain, or launch the next phase of your business. 

Education in Partnership with Encore Bank

The key to borrowing responsibly is education. We partnered with the pros over at Encore Bank to get nuanced, detailed advice for business owners exploring debt financing options. Encore Bank is a private, boutique institution whose goal is not to be the biggest bank, but the best bank. They pair highly experienced bankers with innovative technology to provide an unparalleled experience. With a focus in commercial services, Encore Bank is an expert on the unique banking needs of businesses. Only you can make the best decision for your business, and together with Encore Bank we want to empower you with information so you can maximize the benefits and minimize the risk of securing a loan. Let’s dive into the nitty-gritty. 

Debt Financing

Debt financing, otherwise known by its more intimidating and unsavory pseudonym, the bank loan, might not be the most welcome term in the English language. But, if you’ve purchased a home, car, or have a credit card, you’re already comfortable with the idea. It’s taking a loan and promising to pay it back, with interest. Most of the time, the lender will be a bank or another lending institution, but sometimes it’s an individual. (Quick tip: if a friend or family member loans you money, they should charge the minimum interest rate in order to avoid the “gift tax”.) The process of taking a loan out for your business is similar to taking out a personal loan. When you decide you need a loan for your business, you head to the bank and complete an application. If the bank approves your loan request, it will set up payment terms, including interest. If you're starting to experience financial deja vu because this process is similar to steps you took to receive a personal loan, well - we told you it wasn’t so bad. Unlike with equity financing, the lending institution has no control over your business. Once you pay them back, the relationship ends. Furthermore, any interest you pay is tax deductible, and because loan payments are static each month, it’s easy to forecast what your monthly expenses will be as they relate to your loan payments. As for the downside - well, if you’ve ever had a credit card you’re familiar with the downside of debt financing. Life, the economy, and most things in between are unpredictable. When you take on debt you will definitely owe the debt back with interest, regardless of how your business fares in the years to come. You also have to make monthly payments on your loan, which can take cash away from your operations and slow business growth. Sometimes the institution you’re loaning from requires a guarantee, which can involve your personal or family assets. Small business lending also slows down during recessions, making it difficult to receive a loan if the economy is down.So, you’ve weighed these pros and cons and are excited to get to it, already putting together your loan application in your head. Put down that imaginary pen - we’ll get to the steps you should take to prepare your application, but first things first, we'll explore sourcing options so that you’re applying for the best loan in the first place.  

Loan Sourcing 

Once you’ve decided you’re ready for a loan, Encore recommends establishing or deepening the relationship you have with your current banker. Explore the programs that they offer, and make sure that they have a program that will fit your company’s needs. If your current bank doesn’t have the right loan for your company, you can branch out to other institutions. Lending practices vary from bank to bank, and credit unions and boutique banks are great options in addition to the bigger players. An extension of a line of credit might be all that you need, and you can lock in a manageable interest rate for long term debt. You wouldn’t hire the first person you met on the street to man your operations, and you shouldn’t jump to apply to the first loan you find either. While peer-to-peer lending is an option for smaller loans, Encore Bank and other lenders also offer smaller loans through the Small Business Administration (SBA). These lines of credit are usually available for up to $35,000 and some may require proof that a bank denied you a loan. The SBA has loan programs that are distributed through commercial lenders but are guaranteed to have favorable terms through the SBA. Essentially a bank can offer a loan, but the SBA limits the interest rates and fees that the lender can charge. To qualify for these loans, there are company size standards, and all businesses must demonstrate repayment and be for-profit without internal funding resources. Encore’s SVP Relationship Manager Doug LeBlanc explains this relationship between lenders and the SBA in more detail. Essentially, you’re still borrowing from the bank, as with typical debt financing relationships, but if the bank complies with the SBA’s lending program requirements, the SBA will provide the bank a guarantee. A guarantee means that the lender will ensure that the liabilities of the debtor will be met, covering potential losses if the loans or lines do not perform. So, if a debtor fails to settle their debt, the SBA will cover it. This reduces the risk for the bank, especially in cases where there’s a collateral shortfall or when the financing needs are greater than what your company has historically proven to be able to support, and enables them to offer loans on these more favorable terms. LeBlanc explains, “I like to refer to the SBA programs as growth capital. Whether or not the growth is tied to your new or existing business, if a bank is able to provide small businesses terms through the SBA programs, it will help businesses grow.” When you can finance 90% of an asset and pay off the debt over the course of 10 years versus 5 years, you preserve capital that you can use to finance your business instead of making monthly payments - “and you can sleep better at night,” LeBlanc adds. Now that you’ve found the best loan for your company, Encore gave us the inside scoop about what to do to prepare your application, so that you can set yourself up for loan approval. 

Prepare to pursue financing 

Alright, pull that pen out again, but make it a real one this time. You might as well pour yourself a drink, too, while you're up. Here’s a pretty straightforward checklist outlining all of the work that you should do to get ready for your loan application. Make sure that all of your business records are complete and organized. If your business is in the earliest stages of development, the bank will check your personal credit rather than the financial history of your company.Make a list of any company assets that can serve as collateral, such as real estate and equipment. Look for ways to cut costs and increase revenue in your current operations. Consider which purchases can be delayed, rented, or nixed. Ensure that no one currently owes you money. Calculate how much financing your business needs, and make a detailed plan for how you will spend the money. LeBlanc emphasizes the importance of clearly defining how a business will use the loan. Before a lender can close on a loan, these needs must be documented. If you’re borrowing cash or operating capital, you can detail the opportunity plainly in an email. But if you’ll be using the loan for asset purchases or project costs, a letter of intent, proposed invoice, or purchase agreement can satisfy this requirement. Project costs can increase quickly so the sooner these details are finalized, the sooner a request for financing can be pushed through. Blow the dust off that business plan and make sure it’s updated to reflect your current needs and projected growth. Lenders like to see that you’re actively engaging with your business, ensuring that it’s running efficiently and evolving. The business plan is an opportunity to demonstrate your potential. Even if the economy is slow or business isn’t necessarily booming, you can find ways to highlight your strengths by comparing yourself to competitors or pointing out an untapped opportunity in your industry.Also inform your CPA of your intentions before pursuing a loan. “An updated financial package is critical,” LeBlanc explains. Finally, LeBlanc recommends utilizing Score, an organization powered by the SBA. Score is designed to help you prepare for debt financing with free mentoring opportunities, workshops, events, templates, and tools. 

Borrowing Responsibly 

Securing a loan for your business can seem like a daunting task, but there are ways to borrow responsibly so that you can optimize and grow your business with minimal risk. The NEST team loves to get creative with small business owners and develop financial plans that alleviate the stress that comes with the financial side of following your passion. Reach out at info@nestfinancial.net today. Learn more about Encore Bank and their financing options, or write them directly at clientcare@bankencore.com. DISCLAIMER: We are legally obligated to remind you that the information and opinions shared in this article are for educational purposes only and are not financial planning or investment advice. For guidance about your unique goals, drop us a line at info@nestfinancial.net.Find NEST on:LinkedIn   Facebook   Twitter  YelpFind Encore Bank on: Twitter  Instagram  LinkedIn Facebook