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Just about every business, large or small, must consider the need for business debt financing at some point. In most cases, this debt financing occurs when a business undergoes a temporary downturn that makes it hard to generate funds that keep the company in operation. Businesses that experience downturns based on seasonality sometimes make use of different business debt financing strategies to get them through until the slow season passes and demand for their products rises once again, increasing their cash flow to the point they can operate without financing. In the interim, making use of financial tools like short-term business loans, a business line of credit, or even a temporary factoring arrangement may be a good solution.
One of the most common examples of business debt financing is a simple business loan. In this scenario, the company borrows a specific amount, securing the most agreeable repayment terms as possible. Depending on the loan type, it may be possible to defer payments altogether until the slow season has passed, allowing the company to make maximum use of the proceeds from the loan during that period. Once business picks back up, the loan is retired and the company once again manages debt using its own revenue stream.
A second approach to business debt financing is to establish a business line of credit with a lending institution. This method actually provides a few benefits over a loan. With the line of credit, the business can borrow what it needs to get through a given month of operation, making no more than a minimum payment on the outstanding balance if necessary. Since interest is only applied to the outstanding balance and not the entire line of credit, it is possible for the company to draw on the credit line the first of the month, then make incremental payments throughout the month as revenue is received. This keeps the running balance somewhat low and results in the payment of less interest each month.
Entering into a factoring agreement with a lender is also sometimes a good approach to business debt financing. With this solution, the business is essentially selling the invoices for the current billing period to a factoring service that then advances most of the face value of those invoices. The company’s customers then remit payments directly to the factoring service, who applies them to the amount advanced. Once that debt is retired, the factoring service remits the remainder of the face value of the invoices to the company, less a small percentage for providing the financing. This solution is often a better fit if there is a need for longer-term financing, since establishing and then terminating an arrangement with a factoring company can be quite involved.