Of course, this upside comes with its own set of risks. In their eagerness to achieve their dreams, many entrepreneurs make avoidable business funding mistakes. In this blog post, we’ll explain how you can avoid common business financing traps. We’ll do so by reviewing 8 funding mistakes that small business owners should avoid.
The Top Business Funding Mistakes to Avoid:
1. Skimming the Lender’s Application Requirements
Depending on the kind of small business loan you’re looking for, the length and complexity of application requirements can vary widely. Regardless of how short or long the requirements are, it’s imperative to read them closely and double-check that your application is complete. If you don’t, the lender will automatically reject your application in most cases.
2. Not Researching Multiple Lenders
The sheer number and types of online lenders can be overwhelming. Even so, you won’t be doing yourself any favors if you fail to research multiple lenders. Just like with mortgage loans,shopping around for a lender increases your chances of getting the most competitive rate possible. Plus, you want a lender you can build a relationship with, and researching more than one will help you find the right fit.
3. Only Shopping for One Type of Loan
Depending on why you’re taking out your loan, the kind of collateral you have, and your business model, certain loan types may be a better fit. For example, if you only need financing to buy equipment, your best loan option may be an equipment loan. If you’re only shopping for a traditional loan, you won’t get to see the potentially superior rates of an equipment loan. To ensure you avoid this business funding mistake, read our post on alternative financing.
4. Taking Out a Loan That's Too Small
If you take one business funding tip from this post, make it this one: be careful deciding on your loan amount. A loan that’s too small can be extremely expensive. For example, let’s say you run a restaurant and you take out a loan to renovate your kitchen. During the renovation, you won't be able to run at full capacity, which will affect revenue. Now, imagine your loan funds run out and your kitchen renovation isn’t finished. What you’re left with is a partially functioning kitchen and a complete inability to get a return on your investment.
5. Taking Out a Loan That’s Too Large
All else being equal, the larger your loan is, the higher the interest rate will be. Therefore, if you take out a loan that's too large, you’ll have to pay more in interest.The other, far worse drawback of an excessively large loan is that you can end up with payments that restrict your cash flow. With restricted cash flow, you won’t be able to make the investments you originally took out the loan to make.
6. Missing or Making Late Payments
The last thing you want to do is to make a late payment on your loan, or worse, miss a payment entirely. Depending on your lender’s policy, a single missed payment can result in your loan going into default. When your loan goes into default, what happens next depends on whether the loan is secured or unsecured. With an unsecured loan, your lender will begin the collection process and may sue you to recoup their losses. With a secured loan, allowing your loan to fall into delinquency will result in the lender seizing whatever assets you pledged as collateral. In either case, your credit score will take a major hit, which can cause additional challenges.
7. Skipping the Fine Print
When it comes to business funding, whether it’s from an angel investor, a traditional bank, or any lender in between, the devil is in the details. So it’s critical to make sure you understand the terms and fees included in your loan agreement.This will help you get a true assessment of the cost of your loan and it’ll ensure you’re not surprised by any terms you didn’t fully understand.Before signing a business loan contract, you should ensure that you fully understand the terms and conditions. Your lender should be happy to answer any questions you may have. If they don’t answer your question, you may want to find another alternative lender.
8. Giving Up Too Much Control
At some point, every entrepreneur has to give up some control of how things are done if they want to scale up. However, that’s not the type of control we’re talking about in this section.When you raise capital through private equity, you’re often required to give up a board seat and ownership stake. That by itself isn’t a mistake, but you always want to think carefully about what you’re giving up in exchange for private equity.The easiest way to avoid giving up too much control is to avoid raising capital, or use debt financing. If you do go the private equity route, work closely with your advisors to ensure you negotiate terms that help you retain strategic control.
Conclusion: Be Strategic When Funding Your Business
Whether you’re raising private equity, taking out a term loan, or asking for help from friends and family, business funding mistakes are costly. The good news is, plenty of entrepreneurs have successfully navigated the financing landscape before you. With a strategic, calculated mindset, there’s no reason you can’t use business funding to take your company to the next level.