Loans as we know constitute one of the business funding options available to entrepreneurs. For fresh graduates for instance who have little or no resources to start a business, taking a loan might appear to be the only opportunity to access the funding he/she needs to start off.
However there are some reasons why taking a loan as start-up funding for your business might not be a wise idea. Here are five of them:
Extended Lead-time of Start-ups
Whereas accumulation of interest on most loan facilities commence immediately after the funds are released whether in cash or in kind to the business, sales and returns on start-ups don’t come immediately.
Almost all start-ups have lead time within which the business is being setup and products/services are being developed and are yet to translate into cash. Taking a loan means that you will pay for the period when such resources are not really applied.
Taking an example, say you have a business start-up whose product has a lead time of say 6 months. If you take a loan of $10,000 with an interest rate of 24% per annum which is 2% per month, within the first six months when your product is yet to hit the shelves, you would have already accumulated an interest liability of 12% of $10,000 which is $1200.
In fact, a number of start-ups sink irredeemably because of such accumulated liabilities.
Funding Conditionality Associated with Loans
Every loan accessed by a business comes with a string of conditions most of which are discouragingly prohibitive. In my years of coaching entrepreneurs on business development, I have met lots of people who complain bitterly about the ridiculous and discouraging conditions attached to loans.
A number of young entrepreneurs are not only forced into abandoning these loans mid-way (even after they have spent a lot pursuing such loans) but are discouraged from even pursuing their entrepreneurial dream.
The fact is that business funding houses like banks, mortgage institutions and loan houses are very sceptical about start-ups. They believe start-ups are too risky to invest in due to their apparent inexperience and the huge competition they are likely to face.
Therefore, if they are ever willing to fund such ventures, they would want to attach stringent and often overbearing conditions that will ensure that their loans are repaid promptly.
At times, some of the conditions attached to loans might be a complete takeover of the business if the entrepreneur fails to pay back on time. Therefore, except you want to go through these, then you might not want to go for a loan.
Undue Pressure and Possibility of Irrational Decision-making
Start-ups need the very best of rational thinking and decision making on the part of the entrepreneur. But the fact is that with a business loan repayment obligation on your neck, you’re likely going to make irrational decisions just to get your products to the market in order to begin to amortise the loan, especially when the interest is high.
This could make an entrepreneur take decisions that might ruin the success of the business.
Likelihood of Forfeiture of Assets
To almost every loan, there are collateral requirements. These collaterals are items of good market value that can easily be disposed in the event that the entrepreneur is unable to pay back the loan within the stipulated period of time.
Most times, in disposing the collateral assets, proper evaluation is not done as the funding institution wants to get back its loan as soon as possible.
What this means is that the benefit you thought you had derived from the loan has suddenly paled into insignificance beside the huge collateral asset loss you are made to face.
Exclusion of Unregistered Businesses
Most loan facilities are not available for businesses that are not registered. So, if you’re just starting up and don’t have the financial capacity to have your business duly registered, then you might be chasing shadows trying to apply for a loan facility.
Besides, the resources you might have to commit to register your business just to be able to access a loan could have been used to start up some aspects of the business.
Furthermore, in the event that you’re not able to secure the loan after all those expenses, you would have just thrown away your lifeline.
What Start-up Funding Option Should Entrepreneurs Go For?
One highly recommended start-up funding option is grants. Grants are funds made available to a business which the business is not obliged to pay back. Entrepreneurs should always be on the look-out for grants.
Indeed we have a number of business grant opportunities that are available annually. The Tony Elumelu Entrepreneurship Programme, the Diamond Bank Building Entrepreneurs Today BET, the African Entrepreneurship Award, Africa’s Young Entrepreneurs Empowerment Nigeria, the GEM Big Portal Programme (which is a federal government grant) as well as the YouWiN Connect Programme (which is also a federal government programme) among others are grants available and accessible by entrepreneurs and start-ups.
Another start-up funding option recommended here for entrepreneurs is client financing. Here, you can approach your would-be customer and engage with them on the possibility of having them finance the development of the product. This is indeed the very cheapest interest free financing available to entrepreneurs.
Finally, start-ups can approach investors for investment. The difference between an investment and a loan is that whereas the provider of the loan bears no liability on the fate of the business and therefore has the right to demand for their money whether or not the business is successful, an investment takes up the liability of the business.
This means that if the business succeeds, then the investor succeeds. However, if the business fails, then the investor bears the loss too and has no right to demand for his investment.
Rapping All Up
So, when next you’re considering a start-up funding option for your business, don’t forget to take into consideration all the issues identified with loans, so you can take an informed decision that will not attract regrets in the future.
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