A short article on small business financing caught my attention
today. A study conducted in Spain, you can find it here,
attempted to test the hypothesis that small business with a lower risk profile
will self-select financing options that trade collateral for a lower interest
rate while business with a higher default risk will self-select for financing
options that have a high interest rate but no collateral. The study is very
interesting, and although definitely on the academic side, it poses serious
questions for young entrepreneurs.
1. If I believe my idea is sound and
profitable (almost everyone does) do I raise the necessary collateral to have
access to a lower interest in a loan?
2. Instead of using the collateral in the
loan should I invest the money in my company?
3. If I have no collateral, is my business
ever going to receive funding?
Financing for small business is a touchy
subject. The link between collateral and riskiness of the business can be
argued both way. The bank might be trying to diminish its risk by asking for a
higher collateral. On the other hand the higher collateral might be the result
of conditions within the bank itself or macro-economic conditions outside of
the control of the small business. My advice to small business owners is to
carefully evaluate the need for financing to begin with. Everyone will push
financing, from small banks to venture capitalists, but they have their own
interests. The bank needs a client, the venture capitalist wants a piece of
your company if successful. If you don't have a plan as to what you are going
to do with that money, detailed plan, then seriously reconsidered asking for it
to begin with. Slow, steady, internally financed growth expansion might be a
better option.
Thoughts?
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