Guide to Business Loans

Once you’ve decided that you are ready to look for business loans, there are basic aspects you need to cover in your business. This includes following compliance regulations.

Keep your financial records updated. When you apply for funding, your finances will be scrutinised to see how risky it is to lend to you and if there’ll be a return on the funder’s investment.

It’s crucial that you ensure that you’re following the rules and keeping clear, strong financial records. That way, you are portraying yourself as a suitable candidate that’s deserving of a business loan.

Many businesses typically look at one source of funding for business loans, that option being bank loans. However, alternative funding options exist. The benefit of looking at alternative options is that they may offer more accommodating terms in comparison to banks:

Bank Loans

Bank loans typically follow the structure of medium to long-term loans. The process for bank loans can be strict and tedious, and they may require collateral, making it harder for startups or informal businesses to qualify.

Working Capital Loans

A working capital loan was designed to help businesses cover day-to-day operational costs. This includes aspects like paying staff, covering rent, or managing cash flow gaps. These loans are usually short term and some fintech lenders offer them within 48 hours of approval, though at higher interest rates.

Revolving Credit

If your business needs frequent access to cash, a revolving credit facility acts like a flexible loan to draw from and repay as needed. It’s useful for managing seasonal fluctuations or unexpected expenses in your business.

Asset Finance

The meaning is in the name. This type of loan is tied to a business asset, such as machinery, vehicles, or technology. The loan is repaid over time and if you default, the lender repossesses the asset, which reduces their risk.

Invoice Financing

Late payments are a common issue faced by small businesses, and when you don’t have a large cash flow to fall back on, this can affect your business negatively. When clients pay you late but you need funds now, invoice financing allows you to convert unpaid invoices into instant working capital. Then, the funder can claim the funds owed in your invoices.

Merchant Cash Advances

This option is perfect for retail and hospitality businesses that process loads of card transactions. Instead of fixed repayments, lenders take a percentage of daily sales until the loan is repaid. While convenient, this option can often come with hefty fees.

There are general factors a business needs to consider as they prepare to apply for funding, however, the application process may differ across various lenders. Government grants, banks, and alternative funders all have different requirements. That said, these are the factors you need to consider:

1. Clear Business Plan: You need to demonstrate that your business has gone through the process of creating a solid plan for how the loan will be used and how it will be paid back. This includes revenue projections, cost structures, team roles, a marketing plan, market analysis, and more.
2. Financial Records: It’s crucial to ensure that you separate your personal and business costs. Not only that, you must ensure that you keep track of your records. From salaries, rent, supplies, and other business expenses.
3. Tax Compliance: The last thing you need as a small business is to be in trouble with SARS. Ensure that your business is tax-compliant to avoid hefty penalties.
4. Credit Record: Your business and personal credit scores will be assessed. Not only that, ensure that any business partner you have also has a healthy credit record.
5. Collateral: If you’re following the traditional lender route, they often require some form of security. This could be property, equipment, or another asset.
6. Registration and Legal Documents: Whether you’re a sole proprietor, Pty Ltd, or cooperative, lenders will require CIPC documentation, ID copies, and other important business documents.

Entrepreneurs need support and fortunately, several government agencies and development finance institutions (DFIs) provide loans, grants, and hybrid funding models, particularly targeting youth, women, township-based businesses, and black-owned enterprises.

There are noteworthy programmes available to assist businesses in scaling and reaching their goals. These programmes include the following:

• SEFA (Small Enterprise Finance Agency): SEFA is a great option for businesses that have struggled to get commercial credit financing.
• IDC (Industrial Development Corporation): IDC targets niche funding with the aim of increasing development funding in South Africa.
• NYDA Grants: This grant is targeted at youth entrepreneurs. It provides financial and non-financial support to help them build their businesses.

In recent years, alternative lenders are increasingly filling the gap left by traditional banks. These platforms often use AI-driven methods for compliance and credit scoring, and offer fast approval times. Platforms such as Lulalend, Oricred, Flow48, and many others are well-known players in this space.

The criteria for alternative lenders differ based on the type of loan you want, the amount, and the funder, but the criteria can generally include the following:

• CIPC registration documents.
• South African ID or valid permits.
• FICA documents.
• Proof of residence that isn’t older than three months.
• Compliant with legal requirements for businesses in South Africa.

The appeal of these alternative forms of funding typically lies in speed and flexibility. However, be sure to read the fine print. Alternative funders may seem more accommodative, but some may have exorbitant interest rates and service fees that might strain your cash flow if not planned carefully.

There’s a common blind spot, even among seasoned business owners, which is focusing solely on the cost of borrowing. However, there’s more to assess:

• Opportunity cost: Assess whether you could grow faster or increase margins with the right loan, even at a higher rate. In some cases, the higher rates might be worth it, especially when the loan enables significant expansion or improved profitability.
• Hidden fees: Initiation fees, early repayment penalties, and service charges add up.
• Impact on equity: A business loan maintains your ownership stake, whereas selling equity may give up control.
• Loan stacking: Applying for multiple short-term loans without a solid repayment plan can snowball into unsustainable debt.

It’s easy to assume that you only need to apply for a business loan when you’re desperate or when the business is pushing you to do it urgently, but that couldn’t be further from the truth. With loans, you need to have a proactive approach that forecasts your business’s future.

For instance, if you’re aware that your business will experience a big change in the coming year, such as hiring new employees or launching a new product, you can take a working capital loan to boost your business’s cash flow and cover daily expenses without further depleting your funds.

There are certain indicators that will show that your business is ready for a loan. This includes:

1. Gaining More Customers

Once your business starts gaining more customers, you should prepare to scale. This allows you to avoid a backlog of orders and disappointed customers when you reach full capacity. With more funds, you can make changes like hiring more staff, improving your equipment, integrating technology, or even moving from buying to manufacturing your products.

2. Your Business is Approaching Survival Mode

In a business, there are good seasons and slow seasons, it’s important to anticipate the slow seasons before they come knocking. That way you can apply for a loan before your business is desperate for it. This proactive approach ensures you have a financial buffer to navigate challenging periods, rather than reacting to a crisis. Securing a loan during a stable period demonstrates financial foresight and can often lead to more favourable terms and interest rates from lenders.

3. You’re Missing Out on New Opportunities

If your business needs to turn down opportunities like large projects due to a lack of capacity, you should consider getting a loan to scale for future opportunities on the way.

Consider that limited capacity can lead to stagnation in your business, which can hinder your potential for significant growth. A strategic loan can unlock these opportunities.