When a small to medium business is looking for finance, the first port of call is usually the bank.
But sometimes a bank loan isn’t the best option. The bank might be unwilling to lend, or perhaps unwilling to lend without the owner putting their house up as security, or the business owner might not be comfortable taking on bank debt.
However, those businesses which avoid the banks could end up paying ‘significantly higher rates’ than they might with a bank loan secured with real estate, warns Paul Clements, principal of business advisors Clements Dunne & Bell.
Leasing and hire purchase
Businesses wanting to obtain new plant or equipment can lease or hire purchase it. For instance, a business looking to buy a new earthmover for $100,000 could instead borrow the money from a leasing company for four or six years and pay off the lease out of cash flow. This saves the business from making the purchase with a large amount of cash which might be better deployed elsewhere in the business.
‘They are effectively paying back over that period of time and thereby keeping aside the $100,000 that they may have spent on that equipment,’ says Clements.
‘That’s an easy way for businesses to obtain funding for the acquisition of plant and equipment.’
Factoring is a form of commercial finance where the business owner sells or mortgages its accounts receivable to a factor. Businesses which need operating cash flow can get the money from a factor within 24 hours of sending an invoice to a customer, rather than having to wait 30 to 90 days for the bill to be paid.
But there is a catch. ‘As a general statement, the rate of interest that you pay is significantly more than a mortgage against a property or against plant and equipment,’ warns Clements. In fact, Clements Dunne & Bell has calculated that after taking into account fees and charges, factors can charge effective annual interest rates as high as 18 per cent.
Deals by private equity investors usually make the news when they’re in the hundreds of millions or even billions of dollars, but some private equity investors are willing to put as little as $1 million into a business, says Geoff Steer, of Matthews Steer Chartered Accountants. Private equity investors are usually professional investors who have their investments arranged by specialist firms. ‘They’re looking for good businesses that have got the capacity to grow but are constrained because of their lack of capital or lack of financing options,’ says Steer.
These of investors are not passive or silent partners. They want to make sure that the company is well run so they can get a good return on their money and so will want the business prepared for an eventual sale or float.
‘A private equity investor will almost certainly want a position on the board, and may not necessarily be actively involved in management, but certainly looking over management’s shoulder and providing their input into the direction and the strategy of the business,’ says Steer.
When partners join a business they usually have to buy their way in, providing an injection of capital. Partners usually come from the ranks of current employers or are outsiders with similar skills to the business owner who see an opportunity. ‘When you bring in a partner it tends to be more business as usual or more of a progression, rather than private equity, which tends to be more of a revolution in the business,’ says Steer.
When large businesses want to raise money they can sell shares on the Australian Stock Exchange. A similar option is available to small to medium enterprises through the Australian Small Scale Offerings Board (ASSOB). The board matches entrepreneurs and business owners seeking growth capital with investors.
Businesses can raise up to $5 million on the ASSOB through the issue of an offer document, which has fewer of the onerous regulatory requirements of an ASX capital raising. The board also offers a marketplace for the sale of the shares.
A relatively new source of funds is crowd funding, which involves raising a small amount of funds from a large number of people. The website Pozible serves as a marketplace for crowd funding projects in Australia. Crowd funding is mainly used to fund specific projects, particularly in the arts, such as an CD release or a movie.
US site Kickstarter also does crowd funding for Australian projects.