Access to Capital for Small Businesses - Debt Financing

On March 12, 2010 I attended the seminar "Access to Capital" sponsored by the Education Committee of the Manhattan Chamber of Commerce. The focus of the program was to provide small business owners with ideas of how and where they can obtain necessary funding for their businesses.

There are two sources of outside financing: equity and debt. I found that this seminar focused primarily on the debt financing options available to small businesses.

The first panel consisted of a representative of M&T Bank, a commercial bank that lends to small businesses, a representative of Yellowstone Capital, an alternative lending company that provides merchant cash advances by purchasing credit card receivables, and a representative of ACCION USA, a microlending institution that lends to small businesses.

I learned the following information:

Receiving a loan from M&T Bank takes about one week. There is no application fee, althrough at times they charge a small commitment fee. Small businesses can get loans or a line of credit or a combination of the two. The Bank usually wants the loan to be collateralized with business assets such as receivables. An ideal candidate is a business that has been in operations for some time, has a positive cash flow and good credit. The Bank will ask to see a business plan and two-year projections if the loan is for over $200,000. The interest rates are approximately 1 1/3% over prime. M&A Bank also provides loans that are guaranteed by SBA (Small Business Administration).

Accion USA is all about providing capital for small businesses. They take about 5-10 business days to underwrite a loan. They will lend to businesses that are home-based (no need to have a separate office in order to obtain a loan), in all industries except for real estate. Accion USA may provide loans of up to $50,000 to businesses that have been denied loans from a traditional bank/lending institution. If Accion USA denies a loan, they will help with financial advice and solutions on how to restructure the business. Their rates are typically 8-15%, although they have special initiatives with lower rates. They also do not charge an application fee.

Yellowstate Capital provides alternative financing for businesses that have many receivables (like restaurants, shops).

The second panel was comprised of a representative of NYC Business Solutions, SBA of NY, and two entrepreneurs/small business owners. NYC Business Solutions is a part of the New York City Department of Small Business Services. The organization runs a number of centers throughout New York City that provide no-cost services to startups and small businesses, including financing assistance, legal review of contracts and leases and free classes on how to run and market your business. At NYC Business Solutions they work with businesses to make them "loan ready" (i.e., help develop a business plan, understand financing needs) and then act as a no-cost loan broker in connecting the businesses with loan partners, such as Accion USA, M&T Bank or other institutions. I think this is a great resource available to entrepreneurs and small business owners.

SBA stands for U.S. Small Business Administration, a federal agency created to assist small businesses and entrepreneurs. SBA can guarantee up to 90% of the loan. SBA has several different programs (504 program is a real estate program and 7A is for all other businesses) and can guarantee loans for up to $2 million.

I am enthusiastic to see so many debt financing options available to entrepreneurs and small businesses, as external capital is necessary for business growth. There is also an option of obtaining private debt from investors (promissory notes) that can either be straight debt or be convertible into equity at preferred conversion rates. Of course, startups can also use credit cards to cover their working capital needs, but interest rates charged by credit cards are high.

The main advantages of debt financing are (1) obtaining debt financing typically takes less time than obtaining equity financing; (2) it costs less to document it (rather than equity financing, where a private placement memorandum may be required - see my previous post); and (3) equity ownership is not diluted (unless debt is convertible). The main disadvantages of obtaining debt financing include (1) debt has to be paid back; (2) paying interest on debt can be difficult for some businesses; (3) debt agreements typically contain some restrictions on various transactions or may require lender consent; (4) debt will be carried as a liability on the balance sheet; and (5) business owners may have to personally guarantee it.