Businesses often feel the impacts of a recession in different ways. For instance, manufacturers might not be shipping out their inventories as fast or as much as they want, which leads them to slow their production.
Because of low consumer demand, they might not be able to get back a good return on their investment. On the contrary, businesses might begin to cut costs to keep operating, which could include layoffs and reduced or halted capital spending.
With slow economic activity and job losses, consumers have less money to spend, if they’re spending at all, and business investments suffer. If the recession keeps up, businesses might start facing unpaid invoices, closure, or worse, bankruptcy.
In short, it’s a time of increased financial risks. So, banks tend to hold on to their cash funds instead of lending them out in a risky environment. This tightening of credit access means getting capital can be a challenge.
Albeit recessions make finding funding or growing cash flows difficult, it isn’t impossible. While banks might be more selective of who they lend out money to, they are still a viable option for some. But, even if you don’t meet the bank’s criteria, there are alternative sources of funds that you can still access.
Here are some of the financing solutions and opportunities during a recession that may be available to you.
Banks and Credit Unions
Banks and credit unions are often the first organizations that come to mind when your business needs additional funding. In periods of recession, these lending institutions will typically tighten their grip on handing out credit.
However, if you have a strong credit history and your business operates in an industry with limited exposure to financial loss, you might still be able to get funding from them. If that’s not the case, there are other options you can try.
- SBA-Guaranteed Small Business Loans
The U.S. Small Business Administration (SBA) is a federal agency that offers counseling, capital, and contracting expertise to small businesses. They have several funding programs to help you start a business, grow it, or recover from a disaster.
One of these programs are SBA-guaranteed small business loans. Businesses can get small loans worth $500 up to big loans amounting to $5.5 million from an SBA-approved lender. These loans can be used for most business purposes, such as for operating capital or to purchase long-term fixed assets.
SBA-backed loans typically have smaller down payments, lower interest rates, and longer repayment terms.
- Asset-Based Lending Options
Every business has a set of assets, or things that have value or can be used to create value. Business assets include buildings, inventory, and machinery and equipment.
Asset-based loans (ABLs) provide working capital or funds to businesses who have these fixed assets. The loans are typically structured as a revolving line of credit, where there is a maximum limit from which businesses can borrow from. Payments can be made in installments or all at once.
ABLs can be made against the value of various assets, such as inventory, machinery, equipment, accounts receivable, purchase orders, intellectual property, and owner-occupied real estate. With inventory, equipment, and other assets not being used during a recession, putting them up for appraisal to get an asset-based loan is a good way of finding good use for them.
The lenders will appraise the value of these assets to determine the loan amount, which are usually higher than what commercial banks offer, especially during a recession. In addition, the loan approval process is faster and there are fewer restrictions on how you can use the credit. Businesses can spend the money where they think they need it best to keep on operating during an economic downturn.
Invoice Factoring
Invoice factoring is the process of selling accounts receivable to a third party—the factoring company—in exchange for cash. Because it deals with accounts receivables, invoice factoring is also known as accounts receivable factoring or debt factoring.
The factoring company takes the accounts receivable as a collateral for the unpaid invoices. It then gives the business an upfront payment, which is usually a percentage of the total invoice value. The cash can be in the business’ bank account in as fast as a matter of days. So, invoice factoring can be a huge help for businesses in need of funds asap.
Once the unpaid invoices are turned over to the factoring company, they will take charge of collecting the payment from the customers of the business. Because of this, invoice factoring helps businesses focus on getting back to work and staying afloat during periods of economic slumps without worrying, albeit temporarily, about collecting accounts receivables.
Then, once customers pay their unpaid invoices, the factoring company will take a portion of the payment as a service fee. This is typically a percentage of the invoice value, around 1% to 5%. The remaining balance is given back to the business.
Funding From Investors
While it might not seem wise or prudent to start a business during a recession, there are plenty of real-life examples that this is actually possible. For instance, Uber, Square, Airbnb, Slack, and WhatsApp were all founded during or around a period of an economic slump. The investors who backed these companies are now enjoying the benefits of billion-dollar valuations.
For these investors, the strategy was to invest in early-stage startups during a recession in order to reap future exceptional returns once the market or economy has bounced back to normal.
Because it’s riskier to start a business during a recession, those who push through with their business ideas can be considered more high-quality. Plus, these startups are often innovative and adapt to the changing market conditions and/or fill the gaps left by other struggling businesses in their niche or market. What’s more, the startup valuation at this time is lower, so there’s a chance for investors to diversify their portfolio at lower prices or reduced entry costs.
- Angel Investing
Angel investors put their money into early-stage companies in exchange for equity ownership or convertible debt. According to the UNH Center for Venture Research, a typical angel investment runs less than $400,000.
- Venture Capital Funds
This is a pool of funds from different investors. General partners run this fund and choose which startups they will invest in. While they might appear similar to angel investors, venture capitalists are here to make a quick and profitable exit from a company.
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