Large corporations survive with the assistance of big banks, who can lend them huge sums of capital at any given time. However, who can help small enterprises who do not have excellent credit rating and have only been operating for two or more years in the business? The alternative finance for small entrepreneurs is the perfect fit for small businesses.
Alternative finance for small entrepreneurs provides businesses with funding that do not require borrowers to have reputable credit and minimum years of operation. The design of finance is purposely to support these players.
Term loans are the most common type of alternative finance. They work the same way as instalment loans obtained from mainstream banks or credit cooperatives: the lender and the borrower agree on an amount, an interest rate and a period to pay it back.
The difference, however, is that businesses nowadays can apply for term loans straight from an online lender. These are platforms of loan marketplace or a crowdfunding platform.
Although modern term loans are maintaining its usual borrowing. Their payment structures that are now built with flexibility and transparency. They allow businesses to receive capital and send payments electronically in the name of speed and efficiency.
Short term loans
On the other hand, short term loans differ from term loans. They differ in the payment period, fee structure, requirements, lending time, among others. Short term loans, for one, make use of the factor rate fee instead of the interest rate.
Like in LoanBuilder, PayPal’s financing option for small firms, loans are interest-free. The borrowers will have to pay a pre-determined fixed fee on top of the borrowing amount.
In short term loans, the lender looks at the daily cash flow of the business rather than its credit score. Further, short term loans are famous for their faster release time for funding. Generally, the release is in two days or less. In turn, the lender expects a faster and more frequent payment scheme.
However, the short term loan is unpopular due to:
A. The factor rate fee is usually high at 10% to 60% of the borrowing amount.
B. the short term loan market is heavy in taxes.
Merchant cash advances
Merchant cash advances are another alternative finance for small entrepreneurs that may look a lot like short term loans. The merchant cash advances use the factor rate fee instead of the interest rate. However, the difference is that a merchant cash advance is an advance of future earnings.
Under this scheme, the lender provides the borrower cash sum. The advance is paid by recouping the advance and interest as portions of the borrower’s daily sales.
In short, the amount of payment will change daily depending on how much the business generates for the day. No worries for borrowers though, as most merchant cash advances have no given deadline. The lender will keep taking a cut from the borrower’s daily sales until he fully pays the loan.
Merchant cash advances are faster to obtain and are the best alternative financing option for enterprises with low-value transactions, such as cafes and retail stores.
The use of online platforms to raise capital from peers could be the way to go. The concept of crowdfunding as alternative finance for small entrepreneurs creates a mutually agreed and beneficial deal without the middleman.
There are four types of crowdfunding, namely, debt, rewards, charity and equity.
For rewards, the borrower need not return the money but has to instead give back to the funders something in return for their donation—discount coupons, freebies, promos, among others. For equity, financiers invest money in the business, and in exchange, gets a share of the enterprise.
The most popular crowdfunding site is GoFundMe, while those considered most business-friendly are Fundable and Kiva.
Line of credit
The line of credit is another alternative finance for small entrepreneurs that the banks are offering is a form of financial safety net that is now more accessible online. A business availing a line of credit can secure a sum of money that it can utilize anytime, similar to a debit card.
With this, the business is charged interest only on what it withdraws from the line.
Some line of credit providers allows borrowers to apply online quick and easy. US-based OnDeck, for one, lets borrowers transfer up to $10,000 from their line of credit to their debit card within a minute, far more efficient than the usual one day to two days of transacting with a big bank.
As such, the most recommended option for enterprises that do not seek for significant capital, but need extra funding in dire times to cover for expenses, such as rent and payroll, is tapping a line of credit.
Similar to applying for loans from big banks, businesses have to assess their needs and study their options before applying for alternative finance. They may be more accessible at the height of the Internet era, but obtaining the wrong alternative finance could result in more problems than solutions.