Can you image a way to finance your small business’s working capital needs – like purchasing inventory, supplies, materials, labor etc – and not having to pay a dime to do it?
Well, not only can it be done but you might have the ability to do it right now.
Working Capital
Let’s start by looking at working capital. Working capital is essentially money that a business uses to manage its operating cycle. A retail business needs inventory to sell. It purchases that inventory up front – then works on selling those products over the coming days, weeks, months, etc. But, the business cannot pay for that inventory until it sells those items. Thus, in the mean time, it has to expend some working capital to purchase those products until it can sell them and recoup its money.
The same with service businesses. They need materials, supplies and even labor to get a job done for a customer. But, the business does not get paid until that job is done. However, it still has to cover those materials and wages in the mean time. It does so with its working capital – paying up front and getting reimbursed when the job is done.
Lastly, working capital for a manufacturing business is its life blood. The business receives an order and has to purchase needed materials to complete that order for the customer. Plus, the business has to pay for utilities, supplies and labor to convert those materials into a finished product and it has to do all of this before it gets paid. Thus, it has to have working capital on hand or it has to refuse to take that new order.
Now, most small businesses, instead of using their own money, like to apply for bank lines of credit to cover their working capital or operating capital needs.
The reason is that they offer a great benefit like the ability to draw on, use and then pay that line back throughout the year – as it earns revenue from its operations.
However, bank lines of credit – especially unsecured one – are very hard to get these days. Banks and many other small business lenders either no longer provide lines of credit or make them too hard to qualify for. Plus, if you can get one, they charge high interest from the moment you draw the line as well as huge fees just to have the line available.
And, if you can’t get a bank line of credit, what do you do then?
Well, you bootstrap of course and if you do it right – you can get all those same benefits without any of the cost.
Bootstrapping Working Capital
Bootstrapping is about using personal resources to start, grow and manage your small business. It comes to businesses that have no other options – meaning that they can’t get business loans. So, they turn to personal resources – like savings, home equity or personal credit cards. And, it is the latter that will provide the greatest benefit for working capital.
Credit cards – personal credit cards – are used by nearly 65% of all small businesses (not just new businesses but all small businesses).
The reason is that these cards provide:
- The same ability (benefit) as bank lines of credit – meaning that you can draw on the credit card line, pay it back and draw again.
- They are so much easier to get then business loans.
- They are unsecured – so no collateral is required. And,
- They can be used in your business to cover your operating capital needs.
Most personal credit cards do not have annual fees or any fees for that matter. They do not have to be zeroed out each year (meaning that you don’t have to pay them off and replay every 12 months). And, many provide cash back or other rewards – all things that you cannot or will not get with a traditional line of credit. But, their greatest benefit is that they provide billing cycles and grace periods before interest is charged.
Most credit cards have a 30 day billing cycle. That means that if you make a purchase today, you will not get charged any interest until after the billing cycle is completed. Thus, let’s say that your billing cycle ends on the 15th of each month. Now, if you make a purchase on the 16th of the month, you will not be charged interest on that purchase for at least another 30 days (until the 15th of the next month). And, if you pay that balance in full before the 15th of the next month – you will not be charged any interest at all.
Additional, many credit cards also offer a 25 day grace period to pay after the billing cycle ends – increasing the time until you get charged interest or have to make payments.
This means that you can make purchases on your card and, not only do you not have to pay for those charges for nearly 55 days (almost two months), but you can use that time to run through your operating cycles, get paid from your customers and pay off those purchases – before you get charged any interest at all – and as long as you pay that card off in full, it will cost you nothing.
Credit Cards For Cash Flow
Let’s look at some examples:
A retail business needs to buy $5,000 in inventory and plans to sell those products over the next 30 days. But, it does not have the cash on hand. So, it puts those purchases on a credit card, sells the inventory over the next month. Collects payments from customers – say $15,000 as their mark up is 200%. Then before the card payment is due, take $5,000 from those sales and pays off the balance. In this case, they covered their working capital needs and did not pay a dime in interest or fees for it.
A service business has a new customer that will pay $20,000 to get a job done. To do this, the business will have to purchase $10,000 in supplies and added labor to complete the job. The company does not have that cash on hand and puts those charges on a credit card – completes the job in the next two weeks and collects payment from its customer. It then, before the end of the credit card’s billing cycle, pays the balance off with part of its customer’s payment and ends up paying nothing in interest or fees.
Lastly, a manufacturer needs $7,500 in raw materials to create $30,000 in finished product that it has customers lining up for. But, it does not have the $7,500 on hand and uses it credit card to pay its suppliers. Then, when the production run is done and the business gets paid – it promptly pays off the card’s balance and pays no interest, financing charges or fees.
And, there are as many examples as there are small businesses needing operating capital to grow their companies.
Keys To Success
There are two key factors here:
- You have to be able to complete your business cycle within that 30 day billing period. If it takes you more time then that to get paid by your customers – then you will start to accrue interest. However, paying interest for a month or two may not be that bad given that if you did not come up with the working capital in the first place, you would not be able to get the inventory or materials needed and would have to turn away those customers. (Just as long as you can earn more from the job or sale – then the product and any financing would cost).
- Be able and willing to pay those charges off in full each month – when paid by customers.
Conclusion
There are times that banks and traditional business financing is not the best option for growing small businesses – especially if those banks and financing companies keep denying loan requests.
So, business owners have to find ways to bootstrap. However, bootstrapping does not have to be either hard or expensive. And, like the examples shown, if managed properly, some of the alternative financing options that many small business owners try to avoid (like using personal credit) can turn out to be an inexpensive blessing in disguised.
Joseph Lizio holds a MBA in Finance and Entrepreneurship and is the founder of Business Money Today – a website designed to help entrepreneurs find the unsecured business loans and small business working capital they need today.