Popular media would have entrepreneurs believe that money is the solution to all of their business problems. Although 84 percent of business failures can be attributed to being undercapitalized and suffering from inadequate cash flow, money isn’t always the answer. With that said, capital is an incredibly valuable tool, that if used correctly, can fuel growth and help build a healthy and thriving business.
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Credit is critical
Many businesses, both large and small, rely on borrowed capital to fund new business initiatives, pay for expansion, and maintain business operations, though some are much more successful acquiring financing than others.
Why is that?
One of the least understood parts of owning and running a successful business is the importance of building and maintaining a credit profile that makes borrowing easier and provides options for financing that a poor profile doesn’t. We witnessed this in April and May of this year as many small businesses were turned away from needed Paycheck Protection Program (PPP) funds offered by the SBA because they couldn’t meet the standard of “acceptable credit” required by the SBA and their lenders.
A strong credit profile is more important than ever now, as many small business lenders tighten their qualification requirements and some have even stepped away from small business lending for the time being—though there are still available options. We’ve seen lenders do this before after other major economic crises (the 2008 financial crisis immediately comes to mind). The majority of businesses that are having success acquiring borrowed capital now are those with good to excellent personal and business credit profiles and those that take a more strategic, and less reactionary, approach to leveraging credit and borrowed capital.
Before you can be strategic, you have to address the elephant in the room
I’m a big advocate of what I like to call “strategic borrowing.” From my perspective, the way to leverage borrowed capital to spur business growth doesn’t involve reacting to the short-term needs for extra cash that plague just about every business from time to time, but involves anticipating the business cycle, looking forward, and planning for many totally anticipatable times when a little extra cash is needed.
It requires a business owner to honestly evaluate their financing options and critically address their current credit situation (the elephant in the room). In fact, the first step to building a strong, dare we say “strategic” credit profile, is to regularly monitor your credit. It’s human nature to positively impact the things we pay the most attention to. Regular, monthly monitoring of your personal and business credit will help you leverage credit more strategically in your business.
Three steps to building a strategic credit profile
Building and maintaining credit you can leverage to build a healthy and thriving business isn’t rocket science, but it does require attention and consistent effort. You should also know that there is no quick fix for weak credit—don’t believe anyone who says there is and wants to charge you for a quick credit makeover. Good credit practice over time is the way to address less-than-perfect credit. Nevertheless, you might be surprised at how quickly you’ll see the needle move when you start paying attention to your profile and acting.
In addition to credit monitoring, here are three things you can start doing now to strengthen your credit profile.
Separate business and personal credit use
If you do business as a Corporation or an LLC, the different entities make this easier, but even if you are a Sole Proprietor, avoid the temptation to use personal credit for business purposes or business credit for personal use.
You can start by separating your finances into different bank accounts to account for income and expenses separately. In fact, many lenders won’t even consider offering you a small business loan if you don’t have a business checking account. This is a good practice at a number of levels, but from a credit perspective, it will help you build your business credit profile while protecting your personal credit.
Look for opportunities to establish business credit earlier, rather than later
It can be tempting to pull out your personal credit card to pay for business expenses when you’re just getting started (I admit I did that when I was a small business owner), but it won’t help you to build a more strategic business profile. This is one of those times when I’m suggesting that you do what I say and not what I did. What I did was a mistake. It was an expedient solution in the short term, but it was a mistake nonetheless.
In your first couple of years in business, there are easy and very effective ways to establish business credit. Supplier or vendor credit is one of the most powerful tools a business owner can use to not only build a business credit history, but to strategically leverage credit to build his or her business. It’s often available simply for the asking and you’ll find your suppliers will probably be the friendliest and most accommodating creditors you’ll ever have.
Business credit cards are also a great step into business credit. They are typically easier to qualify for than a small business loan, and 0 percent APR introductory rates are often available for well-qualified borrowers. As long as they report your credit history to the business credit bureaus (some don’t, so be sure to ask), they will help you build a strong business credit profile.
Use the credit you need and make timely payments
It probably goes without saying, but the single most important thing you can do to build a business credit profile you can leverage into business growth is to make all of your periodic payments on time. Granted, this is sometimes easier said than done, but it only takes a missed payment or two to erase 12 months of consistently good credit practices.
Strategically using credit to build a healthy business
My views on business borrowing were influenced at an early age working in my father’s small business. He believed there were really only two times it made sense to borrow:
- To increase the ROI of a project
- To increase the value of the business
Whenever he considered borrowing, he measured the need against those two guiding principles. That’s not to say there aren’t other times when borrowing could make sense, but we’re talking about leveraging credit strategically.
There are costs associated with borrowing, regardless of the source or cost of the loan. Meaning, borrowing more than what you need or when you don’t really need to can be costly and possibly even negatively impact your bottom line. If you are regularly borrowing to meet a short-term crisis, you should evaluate why and make adjustments that will enable you to avoid crisis borrowing as much as possible.
Leveraging credit to build a healthy and thriving business requires you to take a strategic approach to borrowing and a proactive approach to building a credit profile that will enable you to take advantage of and capitalize on opportunities. Don’t allow short-term hiccups to prevent you from leveraging borrowed capital to fuel opportunity for your business.