Working capital is essential for day-to-day operations as it ensures your small business has enough liquidity to cover its ongoing or short-term expenses and obligations. Moreover, maintaining an adequate working capital level can help maximize operational efficiency and profitability and keep your small business moving forward.
Effective cash flow management strategies help ensure your small business has enough cash to cover expenses and invest in growth opportunities. However, this can be easier said than done, especially if you experience a slow sales period. That's when a working capital loan can be helpful. This Huddle Business Capital blog post explains what a working capital loan is, what it can be used for, and how to get one for your small business.
As the name implies, a working capital loan is a financial solution to help small businesses cover their day-to-day operational expenses. It provides the necessary funds to manage short-term obligations such as employee payroll, operational costs, office rent, utilities, marketing, inventory purchases, and other immediate needs.
Many small businesses seek working capital loans to cover temporary dips in cash flows or to sustain their operations during fluctuations in revenue. Some examples of businesses that deal with cyclical sales cycles include restaurants, hotels, construction companies, ski resorts, and snow removal businesses.
Next, a working capital loan can be helpful when unexpected expenses arise. For example, businesses that experience a robust demand for a particular product might need working capital to purchase parts and materials to meet customer demand.
Lastly, a working capital loan is typically not used for large-scale purchases or long-term investments such as land, buildings, or capital equipment. Businesses that need funding for these types of investments usually opt for term loans or equipment financing.
When applying for a working capital loan, it is essential to have the necessary documentation to streamline the process. The documentation needed will depend on the lender you choose to work with. It is worth noting that banks generally require more paperwork and have more stringent borrowing requirements for their loan products.
On the other hand, nonbank lenders have a simple application process, require less documentation, and can often fund businesses with credit profiles that banks don't cater to. You can apply with a quick online application that asks for basic information about you and your small business and your bank statements.
Regardless of the lender you end up using, it is essential to be prepared with all documentation to increase your chances of approval and expedite the loan process.
Once you have selected a lender that offers working capital loans and find out what is needed to complete your loan application, it would be beneficial to understand some of the common factors that contribute to the loan approval decision.
For starters, having a healthy credit score is crucial when applying for a working capital loan. Lenders use this score to assess your risk as a borrower. As mentioned, banks require higher credit scores than nonbank lenders. So, a nonbank lender might be a good option if you have a less-than-perfect credit score.
Other factors that lenders consider when evaluating working capital loan applications include time in business, monthly (or annual) revenue, average ledger balance, and business industry. In addition, lenders prefer businesses that operate or are incorporated in an eligible U.S. state.
Every business is unique, and every lender has its unique lending requirements. That said, some strategies can increase your chances of getting your working capital loan approved. First, you can improve your credit score by monitoring your credit report, paying bills on time, and reducing debt. The major credit bureaus can provide you with a free copy of your credit report every 12 months, which you can review. If your credit report has errors, mistakes, or inconsistencies, contact the credit bureaus and request they be removed.
Next, pay your company's bills on time. Doing so offers numerous benefits, including maintaining a positive credit score (which can improve your creditworthiness and increase your borrowing power), avoiding late fees, and fostering good relationships with vendors.
Finally, do what you can to reduce your business's debt levels to decrease financial strain, improve cash flow, and increase profitability. Implementing effective debt management strategies such as consolidating debt, negotiating with creditors, or refinancing can help you get your finances on track and work towards sustainable growth. Debt reduction enhances your company's health and increases its credibility with lenders.
This Huddle Business Capital blog article is purely educational and contains general information and opinions; it is not intended to provide advice or recommendations of any kind.