It happens to business owners all the time: you spend endless hours putting together your business plan, you think through every aspect of your business – the market analysis, the demand for your product or service, the marketing plan, financial projections, the management team – you’ve covered everything, right? Well, if you’re like many entrepreneurs and small business owners you probably don’t have a credit and financing plan. That plan, for most businesses, should include a plan for credit card usage, credit monitoring, debt financing instruments to use in the first 3 years, and additional emergency financing.
Being in business can be a challenge and most experts agree that not having access to financing will increase the chances of a business failing. Planning related to credit and financing will not only make it less likely for your business to fail, but having access to capital can be one of those areas that gives your business an edge. Business owners who succeed probably did get a little lucky but a lot of them also made their financing a priority for their business.
Decision #1: You Made a Plan for Your Credit Card Use
Frequently, surveys of small business owners show that a fair number of them used credit cards to start or grow their businesses. So it’s likely you’ll be using credit cards. Problems can arise when small business owners don’t think through or plan how they’re going to use their credit cards, and then strategically acquire the best and most appropriate business and/or personal credit cards. Why might this be a big deal? Ask yourself this question: are you prepared to use credit cards in a way that will not damage your personal credit profile and FICO scores? If you’re not sure how you would protect yourself, then you could be like the vast majority of business owners who put their personal credit at risk as they build their businesses.
It might be tempting for a small business owner to just use their personal credit card rather than a business credit card. When you understand how high credit card balances can increase your utilization % and lower your FICO scores then you can see why it might not be wise to use your personal credit cards for your business. With that in mind, put together a plan to strategically acquire the appropriate credit cards that can give you separation between your personal and business credit. While you’re at it, you probably should consider beefing up your available personal credit since that will further lower your utilization levels and give you what credit expert John Ulzheimer calls “credit insurance.” As long as you won’t go on a shopping spree or be careless with your spending, it’s best for your credit profile to have a healthy amount of available credit.
Decision #2: You Monitored Your Personal & Business Credit
You can monitor your personal credit pretty inexpensively nowadays. The only problem is that there’s so many choices to choose from that it’s hard to know which one to go with. There are lots of good personal credit monitoring solutions out there, but you’re a business owner, so don’t forget to keep an eye on your business credit in addition to your personal credit. Businesses looking to determine the credibility of another company will sometimes pull the company’s business credit report. For example, as of Jan. 2014, banks can no longer originate an SBA loan for $350,000 or less and receive the SBA guarantee/backing if they do not use the FICO SBSS score as part of their underwriting process.
The FICO SBSS score rolled out in 1993 and has been updated and refined many times over the last few decades. It’s a compilation of a small business owners personal and business credit pulled into one algorithm and scored between 0-300. So getting an SBA loan may not require you to build your business credit, but with the importance of this score and the role of business credit in this score it’s wise for most to be building and monitoring their business credit.
Some companies will use Dun & Bradstreet’s business credit scores and ratings to determine whether or not to extend a loan or offer a contract to your company. You may not know which business credit scores & ratings a company will use, but that’s even more reason to monitor your business credit profile to see if it reflects your business’s credibility.
Decision #3: You Had a 3-Year Credit & Financing Plan (and Followed It)
Does it make sense to have a plan and follow it or is it wiser to wing it? Since one of the most common reasons for business failure is lack of access to financing there’s a good chance that knowing your funding options and thinking through those options may be one of those things that pays you great dividends. When you’re at the startup stage and you’re using debt financing instead of equity financing, you should think about things like HELOC’s, personal savings, and having some business credit cards to use for different expenses and investments you’ll need to make into the business. As you get through the first two years of being in business, your chances of getting other lower cost financing will usually increase.
Did you realize that you may only need about $10-15k in net profit on your tax return along with a FICO SBSS score of about 165 to 170 or better and you’ll have a good chance of qualifying for an SBA Express loan? Of course there are always other variables that come into play such as add-backs, seasonality, trending, industry, etc. but you don’t need a huge profit in order to qualify for some low-cost funding. Those loans currently are in the 6-7% interest rate range with 10 year paybacks which can lead to comparatively low monthly payments. Why is it important to protect your credit and plan for this kind of financing? If you’re not familiar with the most popular form of business financing since the recession, then a comparison is in order. The estimated monthly payment difference between a $75,000 SBA loan and a $75,000 merchant cash advance should be enough to convince you – about $850/month for the SBA loan compared to over $15,000/month for the merchant cash advance.
Decision #4: You Prepared to Need More Financing Than You Anticipated
It’s an age-old saying. Things always take longer and cost more than we think. It can also be true in business. Experienced and savvy business owners not only know this but they expect it and plan for it. In his popular book Predictable Success, experienced business owner and coach Les McKeown says that he recommends something very simple. He has a formula for how to project the amount of financing you need. McKeown says to do all the planning and projecting, including getting out the lists, building the spreadsheet, and really thinking through all the costs of every area in which you plan to invest. Then when you add it all up to get your number, McKeown advises to multiply it by three. That’s right. If you think you’ll need $100,000, then it’s probably more likely that you’ll need $300,000. So whether you need exactly $300,000 or not isn’t really the point. The point is that you’ll almost certainly need more than $100,000 so would you rather have access to $300,000 and not need it all or would you rather end up needing more than you have?
Having access to financing isn’t about getting a larger loan than you need. That’s not recommended. However, setting up the access is actually – or should be – part of your job as the owner. Think about options like financial and credit partners, having a healthy amount of credit card financing available to you, knowing when you can apply for lines of credit, etc. If you have more money than you need then give it back or pay it back. Imagine that…having more money than you need. That’s one less thing to stress about so you can focus on growing your business rather than just keeping it alive and cutting corners because you don’t have any liquidity!
If you’re working on or finishing up your business plan, then ask yourself if you feel confident that you’ll be one of the few who make it through those difficult first 5 years of business. Then ask if you’ve been thorough in your plans to prepare to have a healthy amount of financing available to you. When is the last time you saw a business plan with a section dedicated to credit and financing? If this can be one of the two most common reasons for business failure then consider addressing this in the early stages of your business. Are you sure you just want to go after that projected amount of financing or should you have a complete credit and financing plan that is holistic in its approach?
Photo Credit: Pictures of Money, Flickr