21 Best Alternative Financing Solutions For Businesses
Small business owners now have more options when it comes to securing financing for their businesses.
Anyone looking for business funding should do their research to make sure they are getting funds from the right source.
There are many lenders and products available.
You can find the right financing for your business much faster than through a traditional funding source like a bank.
Alternative finance refers to all non-bank options that are available for small businesses, such as online lending, crowd funding, grants, angel investors, venture capitalists, and invoice factoring.
It involves financial channels, processes, and instruments outside of traditional finance systems such as regulated banks and capital markets.
Alternative financing is great for many businesses but entrepreneurs need to understand the implications of each possible source.
The financing options can help businesses grow their operations.
Crowd funding involves raising money for a new project or venture from a large number of people.
Each person contributes a relatively small amount.
The fundraising is done through online crowd funding platforms.
The fundraising can be donation-based, where there is no financial reward for the contribution.
The crowd funding platforms give entrepreneurs a chance to get their pitch in front of a lot more people.
It is also a lot faster than taking a pitch to an individual investor.
Rewards based crowd funding offers an incentive for the contribution such as a product or service.
Equity based crowd funding offers contributors equity shares in the company, and makes them part owners of the business.
Crowd funding is beneficial for product launches like launching a promo landing page to gauge public interest.
It is a viable way to test your products in the market. The most common crowd funding model is based on rewards and incentives.
An investor pledges money to support a business or product idea in exchange for a discount on the new product or another reward.
Rewards can range from a percentage of revenue to free products or the opportunity to help in the design process.
Business owners keep full ownership of the business and clients are investors who provide direct access to market feedback.
For investors, there are low risk for small amounts. Some platforms may delay access to funds raised if the overall goal is not reached.
A business owner may need to commit time to promoting the campaign and dealing with financial backers.
They still need to deliver on their promises if things do not go according to plan.
Crowd funding may suit a startup business more than an established business.
It may not be a viable solution if you need help managing cash flow. There are four different types of crowd funding.
These differ based on what is received in exchange for a contribution:
Rewards-based crowd funding: contributor is promised a reward in return for giving money to the project or cause they are supporting.
Investment-based crowd funding: contributor receives an equity stake in the business.
Loan-based crowd funding: contributor loans money to a business at a set interest rate.
Peer-to-peer lending is social lending which allows individuals to borrow and lend money to and from one another.
Borrowing rates are cheaper with less overhead than a bank loan.
The loans can come from unsecured lines of credit or secured business loans.
Lenders and borrowers talk to each other directly through online services that match them up for a small fee.
Peer-to-peer lending is a combination of crowd funding, loans, and angel investment.
This form of funding tends to be more useful for established businesses looking to grow.
Borrowers get loans from individual investors willing to lend their own money at an agreed interest rate.
The lenders get higher returns and monthly repayment has to be made to each of the individual lenders.
Peer to peer lending platforms request borrowers to fill out an application.
They then assess credit risk, determine a credit rating, and apply an interest rate to their profile.
Individual investors or lenders view the profile of a borrower, and assess whether they want to risk lending money to them.
Borrowers can receive the total loan amount from an individual investor, or multiple lenders.
Venture capital firms offer connections and mentorships as well as capital, in exchange for equity in a business.
Venture capitalists or angel investors are individuals or firms that are willing to invest funds into startups.
They are often looking for a return or an equity stake in the business.
This alternative financing option is ideal for companies looking to scale, and those in the tech sector.
To attract the interest of a venture capital firm, a small business has to have a good management team, a useful product, and a clear understanding of the target market.
The business also has to be able to show its product or service will make money.
You need to have a solid business plan and pitch deck.
It can provide valuable capital for growth with lower long-term costs in terms of equity, than successive equity financing rounds.
Venture debt can be a good counterpart to equity financing rounds.
It can also provide a lower-cost, more accessible financing option that opens new doors to new opportunities for a startup business with a strong basis for success.
Third party financiers give loans to help businesses manage cash flow.
It provides businesses and investors with significant growth opportunities that may be unavailable to them.
Direct lending provides bank-type loans without a bank.
Direct lenders may also offer long-term loans with significant repayment periods.
A direct loan may be offered as a first lien or senior debt.
This enjoys priority in case of a bankruptcy or default.
Other loans may be offered as a second lien or junior/subordinated debt.
This is if a first lien is already in place.
Pitch competitions require you to be located within a specific region, be at a specific revenue stage, or be part of a group of select entrepreneurs.
This is a unique funding option for startups or businesses within an incubator program.
This form of financing is beneficial for an established business looking to grow.
It offers a great way to gain exposure for the business.
There are regional or community-driven pitch contests that take place often within your location.
Asset financing may be funding secured against assets, using valuable items in your business as security for a loan.
It may also include equipment leasing and hire purchase.
Equipment leasing and hire purchase can cover plant machinery, catering equipment, telecoms systems, or a new van.
Property financing includes commercial mortgages or auction finance.
Property development is a complex field.
There are different alternative finance products available to help build your property investment portfolio.
Merchant Cash Advances
A merchant cash advance is a lump-sum payment that is provided to a small business by a merchant account provider in exchange for a percentage of future credit card sales.
It gets your business cash based on future card sales of up to a month’s revenue.
If your customers pay you via card terminals, you may qualify for a merchant cash advance.
It is a quick, straightforward, and a good fit financing option for businesses with a high number of low-value transactions.
Loan repayments are taken at source, making it simple and hands-off for busy business owners.
Merchant cash advance payments are automated.
The payments are withheld by the credit card processor until the initial amount plus interest is paid back in full.
A grant is a specific amount of money given to an applicant by the federal, state, or local government.
It is granted to individuals and businesses that show a promising chance of success.
They are much more competitive to receive and require specific circumstances.
Grants are valuable and access depends on the business profile, personal history of its owners, and their funding goals.
Grants provides seed funding for starting a business. They have the structures of mentoring relationships and coaching that a small business may need to grow.
A term loan can be an unsecured business loan, bridging loan, or cash flow loan.
The lender and business agree on an amount, an interest rate, and a timeframe to pay it back.
Some term loans require security or personal guarantees.
Others are based more on a borrower’s credit rating or trading history.
Invoice finance is a great way to unlock cash in your outstanding business invoice.
The lender buys your unpaid invoices and provides cash to the business.
When a customer pays the invoice, the business gets the remaining balance minus the lender’s fee.
This is a useful way to manage cash flow if your business trades on credit and often invoices other businesses.
There are two types of invoice financing including:
Involves selling your invoices to a third party at a reduced cost in exchange for instant payment.
Involves using an invoice issued as security to get a loan.
Some invoice financier’s offer 100 percent of the value of the invoice in exchange for a drawdown fee and an ongoing weekly interest rate.
This alternative financing option may be useful if your business often have to wait for payment after completing projects and buying supplies.
An invoice factoring company often buys an invoice in two installments.
The first installment covers up to 80% of the receivable. The second installment covers the remaining 20% less the factoring fee.
Invoice factoring is a great option for small business owners looking for fast, ongoing access to cash at a lower rate.
Benefits of using invoice factoring includes:
Quick Cash. Get access to cash within 24-48 hours on approved invoices.
Debt free. I does not add a liability to your business balance sheet.
Affordable fees. Factoring rates are as low as 1.5% and advances are as high as 95%.
Less stress. Access to stable cash flow to pay all business expenses, including payroll each month.
Easy access. Factoring company focuses on the strength of your customers’ ability to pay the invoices.
Less paperwork. A factoring company deals with the paperwork, processing and collection of invoice payments.
Invoice factoring company takes responsibility for collecting payments. Customers make payments directly to the factoring company.
With invoice discounting, the business retains control of collecting payments.
Customers do not need to know a third-party factoring company is assisting the business with its cash flow.
SBA loans are set aside for small businesses and entrepreneurs.
They offer more attractive terms and less severe penalties which can be beneficial for startups.
It is important that you have a solid business plan in place before you apply for a small business loan.
Structured Equity Products
Structured equity products are designed for small and mid-sized businesses that seek new funding for growth.
They are offered by business development companies or individual investors.
Structured equity products offer flexible funding that does not affect business owners’ equity stake in the business.
A structured equity product created by a business development company is a pre-packaged investment.
It involves the issuance of bonds or other debt securities by the borrowing company.
They may also include an array of investment products alongside debt securities such as stocks, currencies, commodities or derivatives.
The investments are bonds intertwined with long-term equity indexes.
They are not subject to immediate market fluctuations.
Cash Flow Lending
Cash flow loans are short-term loans to help your business maximize a business opportunity, or manage a poor cash flow.
It offers great potential for businesses with a significant upside in terms of growth but limited physical property.
Some lenders may not offer a fixed upfront price, leaving businesses susceptible to interest rate rises, while others may include hidden fees and charges.
Features of the loan can include faster applications and less paperwork.
There may also be cash-flow friendly repayments and transparency around the total loan amount to be repaid.
Cash flow loans rely on the potential growth of a business to underwrite and secure a loan.
It does not rely on a business’s tangible assets like the value of equipment or real estate.
This type of loan may require a personal guarantee from the business owner.
It can offer great access to debt financing for businesses with a strong upside.
Recurring Revenue Loans
Recurring revenue lending is best suited for businesses with subscription-style services, or other products with high levels of customer loyalty.
With predictable future revenues, recurring revenue lending can be a good option for companies to grow into profitability.
Having a strong customer loyalty, planned revenue projections, and a positive customer renewal rate go a long way.
This form of alternative financing can also serve as a line of credit for ongoing financing for a small or medium size business.
The borrowing limit can grow along with the company’s success.
Mezzanine financing is a subordinate to a pure equity stake held by the same investor, and is also a senior form of debt.
It takes priority over a typical loan. A business owner can only offer so much equity to investors in exchange for capital.
Most lenders may have a cap on the amount of financing they want to invest, leaving a business owner to make up the difference.
Mezzanine financing is a way of bridging that gap and completing the transaction.
Mezzanine loan can be more like a form of stock than traditional debt.
It can be converted into stock depending on the options embedded in the funding deal.
Mezzanine debt is offered by insurance companies, savings and loan institutions, limited partnerships, pension funds, hedge funds, and leveraged public funds.
Non-dilutive funding does not require the business owner to give up an equity stake.
They need to be paid back, and requirements and restrictions may be attached to a grant.
It may be a good alternative finance option for small companies with an interest in research and development.
Fintech lenders provide small loans, credit options, lower barriers to entry, and are based online.
Each fintech financing option has its own set of benefits and limitations.
The amount of funding available is tied to being a client of a specific lender in the long-term.
They may offer loans at even higher interest rates.
Businesses can take advantage of fintech loans to expand their alternative finance options, automated accounting, online payments, and more.
Bootstrapping is what every entrepreneur should do to help feel out the early stages of understanding how much funding your business will need to operate.
It encourages lean business operations and can help you avoid taking out too much funding early on.
It can help you to prepare your business financially.
Consider looking for alternative financing from friends and family, service or product presales.
You can also use your savings or sell assets, and even looking into lines of credit.
A debenture is a type of bond or debt instrument backed by the company’s performance and reputation.
The more well-known and reputable a company is, it can easily get access to this type of alternative financing.
Debentures are an unsecured loan certificate.
Most investors prefer debentures issued by major corporations or national governments as a solid investment.
They are largely based on a company’s credit rating.
Some small and mid-sized businesses may be able to get funding through these types of bonds.
Home Equity Loans or Lines of Credit
Home equity loans are a great option for business owners who already own a home and have significant equity on it.
You can borrow against your home equity to finance your business.
Home equity loans and lines of credit (HELOCs) are easily accessible and affordable.
They also offer attractive interest rates. There is a high level of risk involved in taking a home equity loan to fund a business.
The debt lies with the owner, not with the business itself.
Your home could be at risk in the event of a loan default.