When most entrepreneurs begin the entire process of seeking a business loan, one of the first concerns that occupy their thoughts may be the price of the borrowed funds – namely the interest rate they will be charged.
As you already know, just getting a lender to consider your business loan request is difficult enough nowadays – but, to get one to provide your business capital for a price that you simply feel is the most beneficial to your operations is utterly impossible.
Every day I recieve requests from entrepreneurs (start-up or established business owners) who want to know where they can obtain a cheap business loan.
My answer is always the same – define cheap.
No loan is affordable but on the other side no loan is expensive either – if it’s offer proper use.
The main difference from a few percentage points on a loan is no t nearly as meaningful as what’s done with the loan proceeds. Loans should be a leveraging asset – meaning that you leverage current cash flow to obtain a loan then use that loan to generate more in new revenue than the loan costs.
Thus, financing is just an asset to be used by a business in its operation or quest to generate more cash and wealth.
Let’s take an easy example:
You and also another local competitor have identified an industry niche that could potentially create new ways to use your current products. Although this market is yet unproven, both of you believe that it has tremendous potential.
You go to your lender seeking a business loan for $100,000 for three years. The lender agrees and quotes an interest rate of 10%; making your monthly payment approximately $3,227.
You feel this rates are excessive given the long relationship you’ve had with this particular lender and all sorts of money you have paid for them over the years. Plus, you spent a few hours online researching that the average business loan rates are around 8%.
Your lender claims that he might be capable of getting your rate reduced to 8% but you’ll have to wait until their next loan committee in two weeks to get it approved.
At 8%, you monthly amount borrowed could be approximately $3,134 – a $93 per month savings or $3,351 within the lifetime of the loan over the 10% rate for the same amount.
In the mean time, your competitor goes to exactly the same lender and gets to be a loan quote for the similar amount in the 10% rate. Your competitor takes the deal.
By the time the borrowed funds committee approves your 8% rate – your competitor has executed its marketing strategy with this new market, has created interest in its products and it is now generating an additional $10,000 per month in new revenue out of this niche.
Once your loan is funded, you are trying to complete your marketing plan but discover that you are a bit too late as well as your clients are only able to generate $4,000 monthly in additional revenue (your products is viewed as a copy cat towards the new market leader – your competitor).
While this new revenue pays for the borrowed funds – the brand new revenue generated for the business is still some $6,000 per month lower than your competitor.
Let’s consider the main difference. Over 3 years, the quantity you need to repay for the loan is $112,811 ($3,134 times 36 months). Your company brings in $4,000 per month for all those same 36 months and also you earn $144,000 with a net profit of $31,189.
Your competitor spends more on his loan – $116.162 – but earns some $360,000 or net profits of $243,838 or 782% more than your business all since you wanted a cheap loan.
The conclusion here is the cost of the loan really didn’t matter here. The price that your business taken care of not receiving into this niche before your competitor is a lot higher (a loss of some $6,000 monthly in revenue) then your $93 per month you saved.
Should you compare his rate of 10% towards the profit he earned of some $6,773 monthly ($10,000 – the payment per month) – his loan really was the cheaper one.
And, it truly does not matter should you actually had a competitor trying to beat you to the market. There is an opportunity cost of not implementing a company loan or by not getting it once the time is right.
Even though you were just delayed a couple weeks while fighting for any lower rate – the amount of income that you simply lose by waiting (a sum that you could never constitute as time does not go backwards) would exceed the number you were attempting to save – in this instance, (should you was without a competitor beat you to the niche) waiting two weeks would cost about $5,000 in new revenue while you were only getting a savings of $3,351 at the lower interest rate.
Now, I am not saying that you should not try to obtain a better deal or lower interest rate but, make sure that by doing so you are not giving up more then you are trying to save.
Thus, while you squabbled over a few percentage points looking for that what are known as cheap business loan, the price you paid for not receiving the loan on time by far exceeded any potential savings.