Interest rates remain close to their historical lows, but financing for many repair shops can remain elusive. Any quest for expansion funding must begin with an understanding of the various types of financing, where those funds may be found and at what cost? What type of funding can best help your expansion dreams become reality?
Generally, there are two basic ways to fund expansion; debt financing or equity financing. With debt financing capital is received in the form of a loan that must be paid back. With equity financing, capital is received in exchange for part ownership in the business.
Equity financing can come from a variety of sources, including the repair shop itself, the owner's pockets, as well as from private investors. (Remember, however, keeping control of your business is more difficult when outside investors are involved.) Equity financing for growth or expansion is more straightforward than subordinated debt financing, as the investor need only be persuaded that the expansion will increase the business's equity.
Getting expansion funding from venture capital firms is a long shot for most shops. There are a number of other sources, however, including so-called "angel" investors, that can be tapped for equity financing.
Originally, a term used to describe investors in Broadway shows, "angel" now refers to anyone who invests his money in an entrepreneurial company (unlike institutional venture capitalists who invest other people's money). Classified as 'angels' would be service providers such as lawyers, insurance agents or accountants. Angels may also be business associates, such as suppliers/vendors, customers, employees and even the competition.
ESOP is no fable
Selling stock in a repair shop does not have to involve strangers. Selling company stock to the operation's employees through an "Employee Stock Ownership Plan" is an often overlooked and usually misunderstood option.
With an ESOP, the incorporated business issues new shares of stock and sells them to an ESOP. The ESOP then borrows funds to buy the stock. The business can use the proceeds from the stock sale to its own benefit — say growth or expansion. The company repays the loan by making tax-deductible contributions to the ESOP. The interest and principal on ESOP loans are tax-deductible, which can reduce the number of pre-tax dollars needed to repay the principal.
A surprising number of businesses today have funds available after paying all of their bills — including taxes. Unfortunately, more commonly, retained earnings are largely wishful thinking. In fact, expanding with internally generated funds can be a difficult process to plan for and implement. The main consideration, obviously, is whether the business has sufficient internal cash flows to pay for expansion outlays.
Often, growth requires additional working capital to finance inventory purchases and accounts receivable that may grow faster than payables, putting the shop in a tight cash position. A revolving line of credit can generally be expanded to accommodate the new credit needs of the business.
A bank is probably the best-known source of funds for most small shops. Typically, banks are the place to go for short-term lending, usually secured by tangible assets. In other situations, however, banks often help in one of two basic ways:
- Commercial banks can help a business increase production by providing funds to secure new equipment.
- Banks can provide working capital lines of credit to help expand cash flow.
Often thought of as a last resort, the U.S. government is actually an excellent source for a wide variety of financing. The federal government has a vested interest in encouraging the growth of small businesses and some loans, particularly those of the Small Business Administration, have less stringent requirements for equity and collateral. Many SBA loans also are for smaller sums than many banks are willing to lend.
The biggest, and most popular SBA loan program, is the 7(a) Loan Guarantee Program. The SBA guarantees up to $750,000 or 75 percent of the total amount, whichever is less. For loans of less than $100,000, the guarantee usually tops out at 80 percent of the total loan. A 7(a) loan can be used for many business purposes, including real estate, equipment, working capital or inventory.
At the top end of the SBA spectrum is the 504 Loan Program that provides long-term, fixed-rate loans for financing fixed assets, usually real estate and equipment. The 504 loans are usually made through Certified Development Companies — nonprofit intermediaries that work with the SBA, banks and businesses looking for financing. Typical percentages for this type of package are 50-percent financed by the bank, 40-percent by the CDC and 10-percent by the business.
In exchange for this below-market, fixed rate financing, the SBA expects the business to create or retain jobs or to meet certain public policy goals.
Among the best sources of assistance are the many state, regional and local economic development agencies. There are nearly 12,000 economic development groups in the U.S. whose purpose is to provide economic growth and development in the areas they serve. They generally encourage new or expanding businesses to locate in their area, or to remain in the area.
While not always a source of expansion financing, a state's office or agency of economic development can be a guide to regional and local funding.
Financing the growth of a repair shop is a complex affair. Money to help grow and expand the operation is, however, widely available to those owners willing to do their homework. Comparison-shopping for lenders, rates and terms is strongly recommended.
Mark Battersby is a nationally syndicated tax and financial columnist and book author.