There is much negativity around carrying any debt, both personally and as a business owner. If you can start and grow a business without taking out any debt, great! That is a fantastic position to be in as a business owner. The reality is that most small businesses have some debt, and it is nothing to be ashamed of! Debt is a tool that can be leveraged to grow your business quickly and strategically. Let’s discuss how to be smart about debt and how it can affect the sustainability of your business.
Carrying Debt Is Normal
It takes 2-3 years for a small business to be profitable. So, unless you came into entrepreneurship with 2-3 years of a salary in your bank account, you will need a way to pay yourself. Many business coaches will recommend operating with zero debt, but that isn’t always realistic. To grow a business, you have to put your time and energy into the business. You cannot do that for free! So, what is the answer? Often, it involves using a form of debt to pay yourself during the start-up phase.
How Debt Can Affect Sustainability
Now that we can all agree that having debt in your business is NORMAL, let’s break down how debt can affect the sustainability of a business. Business sustainability is the ability to stay in business and be profitable over time.
When taking on debt in your business, one of the most important things to consider is if you will have the cash flow to make the payments for the length of the repayment period. Cash flow is the money available to spend in your business at any given point in time.
If your business has consistent and predictable revenue and expenses, you can easily predict your cash flow and determine if the business can support the debt payments for the term of the loan. This is exactly what banks look at when determining if a business should be approved for a new loan or an increase on a loan. If you are a newer business or a service provider, it can be challenging to project cash flow for the length of the loan. So, be cautious about the amount of money you borrow and how much you will pay in interest over time.
Keep in mind, that you are not the bank…your ability to repay the debt is just one factor in determining the proper and best use of this business tool. Another very important factor is the purpose of the debt. What are you planning to use this money for? Does the potential increase in revenue exceed the interest expense on the loan or are you paying to buy time?
Reasons for Business Debt
- Not enough revenue to pay your bills
- Paying salaries during the start-up phase of business
- Investing in software, equipment, and employees to grow your business
- Revenue timing-need to pay expenses before revenue comes into the business
In an ideal world, taking on debt should create more revenue than it costs you to carry the debt.
There’s nothing wrong with a line of credit to help with short-term cash flow timing concerns. If you have to pay employees $10,000 before you can turn around and bill your client $20,000 for those hours, you may need to borrow $10,000 for a month. My recommendation is that you immediately recover from these timing differences by paying the line of credit back as soon as the revenue is received. I then work with my clients to calculate and anticipate these timing and cash flow needs so they can fund them through business profits rather than debt.
How 4 Corners CFO Helps Manage Business Debt
Managing debt and planning for the future is just a small part of what 4 Corners CFO does with our clients. In the first three months of our time together, we take an in-depth look at your balance sheet and key metrics to assess sustainability, the purpose of existing debt, and cash flow.
You might assume that a CFO would come in and immediately start slashing spending and throwing money at the debt to erase it as fast as possible. In reality, we understand that not all debt is bad and that it can be a tool in your business as long as it’s managed appropriately.
For our many clients that have debt, our goal is for you to have a reasonable 5-year plan to pay it down. We want our clients to get to the point where you can cash flow your business without taking on more debt but we know that it is often the go-to solution for business owners that have not yet practiced the habit of prioritizing their profit. Debt should be considered a temporary investment tool, not endless cash flow. When debt becomes the long-term solution for cash flow generation rather than increased revenues, that creates a business sustainability issue.
Being able to run your business without any debt can be amazing. If that is your goal, we are happy to support you in that ambition. For some businesses, especially those with long revenue turnaround times or extremely expensive equipment, it is unrealistic to think that you will never need to carry any debt. Our goal is to help you manage debt in a way that maximizes your return on investment and keeps your business on a growth trajectory. Book a complimentary discovery call today if you would like to chat more about your business debt!
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