The holiday rush is the lifeblood for many retail businesses, responsible in some industries for a much as 20 percent of annual revenue. For other businesses – most notably seasonal summer shops and services – the holidays are the lowest revenue point of the year. Some of those businesses have trouble meeting their cash flow needs during the holidays, and each year a few fail to make it to the fatter times in the new year.
We’ve published several articles about cash flow in recent months, offering a variety of ways businesses successfully make it through the tough months. One of the most common and potentially powerful of these solutions is a working capital loan.
Here’s the who, what, when and where of working capital loans and whether or not they’re right for your business.
Who Needs Working Capital Loans?
Working capital loans work best for businesses that lack the revenue or cash reserves to pay all expenses associated with two things:
- Making good on financial commitments until the busy season begins
- Preparing for the busy season with advertising, laying in stock and staffing
Without sufficient funds to do both of those things, a business is in Really Big Trouble. Working capital loans provide those funds.
- Save money during the busy season so you can take out as small a loan as possible
- Don’t skimp on the preparatory spending, as it’s one of the most important ways to make sure you have sufficient cash reserves the next holiday season
- Negotiate flexible rent and utility payments with vendors, cutting back on the expenses during the holidays and paying more during your industry’s busy season
As opposed to loans that provide funds for a specific purchase, like upgrading equipment or building in a new location, a working capital loan makes money available to pay. They come in two varieties:
- Installment loans, where the business borrows a set amount of money and pays a static amount back each month until the loan is paid in full.
- Rotating lines of credit, where the business borrows what it needs from a set credit limit, and pays back what it can when it can.
Each variety has a dizzying array of sub-types, lending options, structures and payment plans. As with any business decision, your best move is to investigate the details of several loans and figure out which will most effectively and inexpensively meet your company’s needs.
- Lines of credit tend to be the most advantageous, since they allow you to borrow only what you need and let you put off paying the majority of the balance until your busy season arrives.
- Be certain to ask for references from any lender you approach about a working capital loan. They will tell you important details about the loan and lender that might not have been mentioned during the application process.
- Rotating lines of credit are often more expensive than installment loans. Often the flexibility and convenience still makes it the better choice.
When Should You Get a Working Capital Loan?
Taking out a loan is always a balancing act. If you get your funds too early, you’re paying interest you could have avoided. If you get them too late, you suffer many of the problems you would have if you hadn’t taken out a loan in the first place. Therefore, it’s key to time your funding as accurately as possible so you make the most out of the expenses associated with the loan.
If you’re working with a traditional loan or line of credit, it can take a month or more to set up. You should begin the application process early in the fall to be sure you have the operating capital available in time for the holidays. By contrast, online lenders can process a working capital loan in less than 24 hours. You can wait until you really need the money before beginning the application.
- Gather the basic loan application documents you’ll need, such as a business plan, articles of incorporation and recent profit and loss sheets, before starting a loan application process. This can save you time and trips as you begin.
- If you establish a rotating line of credit this year, you can carry over the agreement into the next holiday season and skip the entire application process. The money will be there when you need it – no sooner, no later.
Where to Get a Working Capital Loan
Working capital loans are available from a full spectrum of sources, ranging from large banks to credit unions to online lenders.
- Large banks often have the lowest interest rates, but are the slowest to work with and usually more difficult to qualify for.
- Online lenders are fast to work with and easy to qualify for, but the rates are higher than banks because of the convenience.
- Small banks and credit unions split the difference, offering interest rates, processing times and acceptance rates somewhere between large banks and online lenders.
- The SBA offers a variety of loans at good interest rates, but can be the longest-taking and most difficult to qualify for. For this reason, their loans are rarely suitable for immediate working capital needs.
Which one is right for your business depends on your specific needs. We recommend getting the details from several options and making the most informed decision possible.
- When comparing different lenders, look for hidden fees and costs that could double (or more) the advertised interest rates.
- Always check with online watchdog groups and consumer advocacy sites when comparing lenders. It’s just good due diligence.
Ultimately, we can’t tell you whether or not a working capital loan is right for your business, or what kind of working capital loan will work best for you. But if you look at your cash flow, projections, needs and opportunities with this information in line…it’s likely you will be able to tell as well as anybody.