The term working capital refers to the money required to keep a business operating. This can include expenses like rent, payroll, and utilities. It is also called operating capital or cash flow.
Many businesses have a period where they are short on operating funds. It happens when a company is just starting up or hits a rough patch due to unforeseen circumstances. In these instances, a business owner can consider a loan.
A working capital loan is a shorter-term note and cannot be used to purchase long-term assets. There are pros and cons to this type of financing.
Pros
- A loan to replenish cash flow can be quick to obtain. This can be beneficial for a business owner needing to cover a financial gap quickly.
- Business owners with a solid credit history may be able to get an unsecured loan. That means no collateral is required.
Cons
- Since these types of loans are risky, interest rates are typically higher to protect the lending institution.
- The loan may be tied to the business owner’s credit. Missed payments or default will negatively impact their credit score.
Businesses that are cyclical or seasonal can use working capital loans to pay bills during slower periods. Manufacturers are one example. They may produce a high volume of products during the summer months to supply vendors for holiday shopping but then slow down. They can rely on a loan to make payroll to keep the factory open for a few months and then pay it back before the next busy season.
There are different loan options to consider:
- Term loan – The business takes a lump sum of money when the loan is closed. There is a repayment schedule in place to pay it back.
- Invoice financing – This allows a business owner to borrow funds against the amount of money due from customers, or invoices. The lender collects a percentage of the invoices due as a fee.
- Line of credit – Similar to a credit card, the business owner can access funds when they need them. They can continuously use and pay down the line of credit. There is a variable interest rate charged on the amount of money used.
Talk to a trusted lender to see what options they offer and which one is best for you. You will need to provide financials when you are ready to complete an application. It can be a great solution to keep your business operating smoothly.
