Most businesses, particularly during their initial, formative years will require a degree of business funding. This may be to recruit and retain staff, pay for premises, acquire stock or something else. In previous times, the process followed when this was the case, was for the business owner or manager to prepare a detailed business plan and collate all their business’ financial information. They would then arrange an appointment with their bank manager and put it to him or her and seek approval.
Nowadays however, banks are more reluctant to lend their money to as many businesses and ventures as they used to. Therefore, there have emerged several alternative providers of loans for businesses, some of which are able to arrange alternative forms of credit and funding for businesses, based on merchant and business loans (source: Cube Funder).
Rather than going straight to a bank as a first port of call, increasing numbers of businesses are seeking alternative providers who can provide the funding they need on often more flexible terms and with more favourable application criteria to meet. Common routes of business funding include business loans to provide the required cash injection and secured and property finance; secured against the business premises or other assets used as ‘security’ for the loan.
Traditional Business Loans
These are loans that are specifically designed for businesses’ needs and requirements. Typically, a business loan will follow the same old-fashioned route of having to fill in an application of sorts to then have the business proposal and potential assessed. These are still widely offered by banks and high street lenders, although in recent years they have tightened their criteria up, making it a more rigorous process for prospective borrowers.
Business loans tend to be classed as short, medium or long term, depending on the duration of repayments, with short term business loans tending to be lent over the course of 12 months or less.
Medium and Long-Term Loans – These loans tend to be over a period of 1 to 5 years. The borrower and the lender will arrange the loan amount and repayment terms plus interest. The longer the loan term, the lower the monthly repayment amounts. However, the longer the term of the loan, the more that will be repaid in total as there will inevitably be a higher interest rate. For many businesses though, repaying lower amounts over a longer period is more desirable and manageable that having to repay larger amounts over a shorter period.
Property Finance and Secured Loans for Businesses
Property finance and secured loan options are another common way for businesses to borrow money over a period of time. When it comes to property finance, there are a few types of loans that are more common and more popular than others:
Bridging Finance – This is a way for both individuals and businesses to literally ‘bridge the gap’ until a predetermined event or business occurrence that will clear the loan. Bridging loans are classed as short-term property loans and have higher interest rates than traditional property finance [mortgages]. However, the pay-off tends to be greater than the loan and interest amount. For example, a property investment company may be awaiting the sale of a property in their portfolio, when a desirable property becomes available on the market.
Rather than missing out on the second property which could yield a very lucrative return, the company can take out a bridging loan to buy the new property. Once they sell off their property from their portfolio, the money from that sale goes towards paying off the bridging loan and any remaining debt is cleared by refinancing the second property.
Mezzanine Finance – This is a hybrid loan and combines property debt with business equity and is usually more pertinent to businesses that have lucrative potential but that are otherwise high risk. Many lenders will not provide unsecured business loans to these types of businesses as the risk of losing their money is too great. Furthermore, businesses of this nature are unlikely to own enough equity in property to be able to secure a property loan and those that own a property are likely looking for a second rather than a first charge property loan.
Mezzanine finance allows them to borrow the loan amount they need to progress their business. This is done by the lender providing the loan needed (often as a second charge loan) but with a clause in the contract that if the loan is not repaid by a predetermined time, the lender receives a percentage of equity in the business.
Should this occur, the lender can recoup their money either by receiving shares in the business or by selling off the shares, often at a profit. This is a high risk but potentially very high return funding strategy for both the lender and borrower.