Business owners can enhance the bottom line of their enterprise through boosting profit, cutting costs, or both. An investment in new equipment is one of the ways to accomplish both.
Nearly every business can benefit from equipment upgrades. New machinery builds efficiencies and allows owners to manage growing customer demand. The Equipment Leasing & Finance Foundation predict a robust commitment to upgrades in the months ahead, forecasting that “equipment and software investment should expand by about 3.0%.”
Reasons for companies to invest sooner rather than later include the anticipation of further interest-rate hikes by the Federal Reserve that could drive up the cost of business loans and other credit before the end of 2017.
That said, firms considering new equipment need to strategize their financing. In many cases, a loan is the best option because it allows companies to preserve capital for cash flow needs, and to enjoy the economic benefit of new equipment without the need to amass the necessary funding first. Here are some tips on planning and selecting the right loan.
Develop an expectation of useful life
In other words, consider how long you will be using the equipment. This question is important because it’s wise to choose a loan with a term identical to the life of the equipment. This approach avoids the trap of burdensome payments long after the equipment has served its purpose or high payments before realizing the value of the purchase.
Decide on the type of lender
The next decision will be critical: You can finance with an ordinary bank or an online lender. Cost should be the driver of this choice. A traditional bank, in most cases, will offer more favorable interest rates. Conventional brick-and-mortar banks still have cheaper access to cash despite the recent rise of online lenders. Ordinary banks can borrow from the Federal Reserve at aggressively low rates. Meanwhile, cash from online lenders often comes at a higher cost although the approval process is faster and more accommodating.
Despite a higher cost of capital, an online loan may be necessary for a small business. The reason: There has been a continued downtrend in lending from banks to small businesses. “Together, 10 of the largest banks issuing small loans to business lent $44.7 billion in 2014, down 38% from a peak of $72.5 billion in 2006,” reports The Wall Street Journal. Meanwhile, nonbank lenders have seized the opportunity and captured 26% market share up from 10%.
Banks sometimes downplay small-business loans because they lack a standardized approach that streamlines conventional lending for mortgages and credit cards. Each small business loan request is different, which can make credit decision process less conventional, more time-consuming, and therefore possibly less profitable.
For these reasons, it can make sense to tap loans that are associated with the federal Small Business Loans program. The SBA doesn’t lend directly to the borrower. Rather, they are an intermediary connecting the bank to the business seeking funds. This relationship solves the problem discussed above because the SBA handles the application process and guarantees the loan. This can give both offer the bank an assurance of repayment and are unencumbered with credit evaluations and paperwork.
Know The Market
Interest rates will vary across lenders, with banks typically offering lower interest rates than alternative or online lenders. Loans backed by the Small Business Administration also offer competitive rates, even when compared to bank loans.
Banks spend the same amount of money and time underwriting small and large loans, and since big businesses tend to borrow larger amounts, banks will earn more from them. As a result, banks typically charge small businesses more to make the investment worthwhile for them. As a general rule of thumb, the smaller the loan amount or the shorter the length of the loan term, the higher the interest rate from a bank will be. Another factor that can affect your interest rate is your relationship with the lender. Some lenders will offer lower interest rates or reduced fees for borrowers that have taken out multiple loans and repaid them on-time. This is true for both banks and alternative lenders, so it may be a smart idea to do your borrowing from one place.
Attention “nearly bankable” small businesses: A new loan fund is available through the Montana & Idaho Community Development Corp. and Capital Matrix.
The new funds will increase the Montana & Idaho CDC’s lending to startups and existing businesses that don’t qualify for all or part of needed financing through a bank.
Capital Matrix is a private, nonprofit corporation that is licensed and regulated by the U.S. Small Business Administration to administer the SBA 504 loan program. The Montana & Idaho CDC specializes in lending to businesses that are light on collateral or cash flow.
The loans range from $1,000 to $2 million and can be used for remodeling or purchasing real estate, inventory or equipment, for example. Loan clients also receive one-on-one technical assistance in financial management and other areas of business management.
Applying for credit has gotten easier since the recession. What to know before you borrow.
Need cash? Now might be a good time to apply for a small-business loan.
It’s a notoriously time-consuming and headache-inducing process, but it’s gotten better since the recession: Banks are gradually lending more, a crop of online lenders are offering much more credit–at a price–and regulators have been looking for ways to make it easier for you to get a loan. Which is not to say it’s completely easy or risk-free, especially if you’re applying to one of the newer fintech lenders.
“Right now is actually quite a good time for small businesses to borrow, but getting a loan that works for you and is affordable and has terms you can understand is still a challenge,” says Karen Mills, a former head of the Small Business Administration under President Obama and now a senior fellow at Harvard Business School.
In November, Mills and Brayden McCarthy, vice president of strategy at online lending startup Fundera, published “The State of Small Business Lending: Innovation and Technology and the Implications for Regulation,” a comprehensive look at the current market for small-business credit. What they found can help you figure out where to look for a loan, if and when you’re ready to expand your business.
The Slow, If Spotty, Recovery
The number of small-business loans fell dramatically during the recession, as big banks cut off credit to customers they considered risky and many smaller and regional banks that once lent to local business owners shut their doors. It’s better now. In 2016, eight years after the crash, 45 percent of small-business owners reported applying for credit, up from 22 percent in 2014, according to the Federal Reserve. As these two charts show, pessimism about the lending atmosphere is currently low–but getting all the money you need remains a problem.
Is Borrowing Harder or Easier?
Businesses that regularly borrow money report changes in their ability to get credit versus three months prior.
Small business loan approval rates at big banks increased by two-tenths of a percent to a post-recession high of 24.3% in April 2017, according to the latest monthly Biz2Credit Small Business Lending Index™.
While it is encouraging that nearly a quarter of small business loan requests are granted by the big banks, which typically offer the lowest rates, three-quarters are rejected. The approval rates are likely to continue climbing this year, thanks to confidence in the economy and more anticipated interest rate hikes by the Federal Reserve.
The Fed has laid the groundwork to build a strong lending environment, especially for mainstream lending institutions. Since most small business loans are tied to U.S. prime interest rates, there will be more incentives for banks to approve loan requests as lending in this sector is likely be more profitable.
The challenge is that while big banks have the most money to lend, they typically are the most stringent. Small business owners often complain that the banks are willing to lend to people who don’t really need the money. While this is not exactly true, banks can be tougher in their assessments, which is why they can offer the lowest rates in the first place. They are good at minimizing their risk.
Small banks are more likely to provide funding. According to Biz2Credit’s latest survey, small banks approve about half (49%, to be exact) of the financing requests they receive. They are increasingly offering SBA-backed loans, which help reduce lender risk.
While this news is good, the reality is that more than half of the small business owners who apply for loans will find one from a bank.