There isn't any advantage to having bad business credit, but it also not the end of ever getting a small business loan.
After all, capital is usually required to grow. With bad credit, more work and time are required to receive financing.
But if you are up for it, you can still turn things around and get financing for your business.
In this article, we'll provide a roadmap on how to build your business credit back up. These same tips are applied to new businesses that don't yet have any credit.
There Can Be Many Reasons For Having Bad Credit
A business may go years with great credit but all it takes is one bad event and your credit can come crumbling down.
Letting such an event consume you can lead to a downward spiral of missed payments, loan defaults and more. Instead, you want to be proactive rather than falling into a reactionary mode.
Whatever the event was, let it be also not something that continues to happen. Keep making on-time payments.
Try to work with the specific creditor where your payments are late.
Explain your financial situation and what led up to missing payments, defaults or whatever the issue may be that has led to your credit being damaged. The last thing you want to do is go missing in action. Staying in communication with creditors is essential.
Small Steps To Building Your Credit
If you haven't already, register with Dun & Bradstreet (D&B). D&B is like a credit bureau for businesses. Any potential customer, creditor or vendor can look up your business credit report on D&B. If you don't have a report on D&B, you may limit the number of companies who want to work with you.
Having vendors and creditors report your payments to D&B will help to build your business credit profile.
As your payments are reported, you build a payment history. Vendors and creditors will probably not report your payments unless you ask them too. Ask existing vendors and creditors plus anyone new who you begin working with.
D&B also provides a credit score, similar to the FICO score used for personal credit. The business score is called a PAYDEX score and is ranked from 0 - 100, with 100 being best.
D&B also offers a product called the Credit Reporter, which allows companies to evaluate the creditworthiness of a business. Pulling your own business credit report will let you see what vendors and creditors see. From there, you can work on improving specific areas.
The following are great small steps to improving your business credit:
- Continue making on-time payments.
- Have creditors and vendors report your on-time payments to D&B
In the next few sections, you'll learn about how lack of capital leads to cash flow shortages. While bad credit will limit your ability to get a business loan with a good interest rate, it won't completely eliminate all of your financing options. They just won't be as good.
But being starved for cash isn't an option if you want to stay in business.
Handling Cash Flow Shortages
A cash flow shortage occurs when a business doesn't have enough cash to pay its bills and order materials for creating its products.
Eventually, vendors stop working with the business, cutting off its source of raw materials and supplies. Creditors stop lending the business money since it is likely missing payments or worse - defaulting on its loans.
The business goes into an unrecoverable death spiral as cash completely dries up and its bills continue to mount, creating a situation it can't get out of.
One common cash flow scenario is when customer invoice payments are collected later than vendor invoices are due.
For example, if customer invoices are collected on net 90 terms and vendor invoices are due on net 45 terms, there is a 45-day gap that the business must somehow finance.
One way to fix this problem is to close the gap. Pulling customer invoices in by 30 days to net 60 terms and asking vendors for net 60-day terms can have a dramatic, positive impact on cash flow.
Depending on the industry, such large changes may not be possible. If customer invoice repayment terms are normally set at 90 days, decreasing them to net 60 can send existing customers looking for better repayment terms, while scaring off any potential customers.
Knowing your industry's repayment terms is critical to making a good decision on how to adjust your invoice payment terms.
Another option businesses use is called invoice factoring. Invoice factoring involves a company called the factor, who purchases your outstanding invoices.
Upon doing so, the factor will advance 80% to 90% of the outstanding invoice value to you. The remaining amount, minus a fee, stays with the factor until the invoices are collected.
One great benefit to invoice factoring is that your business credit score doesn't have as much impact on invoice factoring terms. This means a business with bad credit can quickly improve its cash flow.
Invoice factoring isn't for every business. Factors will have certain business criteria that you must meet. Also, the factor will collect invoice payments directly from your customers. This means your customers will know that you are using a factor.
With bad credit, a traditional bank loan is all but a foregone possibility. There are still many lending options available but you'll have to pay a higher interest rate to use them. Below are a few online lending companies that you might consider.
ondeck - ondeck provides both term loans and lines of credit. Approval can occur in only a few minutes with funds deposited within 24 hours.
The difference between term loans and lines of credit is that a term loan is a like a traditional bank loan. You must apply each time for approval of the loan. It has a fixed interest rate, amortization schedule, and is a one off loan. A line of credit is open ended.
Meaning, it doesn't have a set date that the loan needs to be paid back and you don't have to apply for approval each time you want to take a draw on the line of credit. The interest rate is higher than a term loan and can fluctuate.
ondeck's term loans are available for up to $500,000 with 3-12 month or 15-36 month terms and rates as low as 9.99% APR. Lines of credit are available for up to $100,000 with rates as low as 13.99% APR. ondeck does have origination and monthly fees depending on the loan type.
Kabbage - Kabbage is similar to ondeck. It has a quick qualification and approval process. Lines of credit are available for up $250k on 6 or 12-month terms. The fee is monthly and ranges between 1.5% and 10% of the principal loan amount. There is a calculator available on Kabbage's website that allows you to determine how much the fee will be.
From Kabbage's website, the minimum qualifications are, "you should be in business for at least one year and have a minimum of $50,000 in annual revenue or $4,200 per month over the last three months."
...banks simply haven’t been equipped to serve businesses seeking smaller loan sizes under $250,000, even though they likely want to," Rob Frohwein, CEO of Kabbage, told CrowdFund Insider. "At Kabbage, we’re actually asking the same questions that the banks are asking when qualifying applicants, but what we do differently is connect in real-time to third party, verified data sources that give us a more holistic picture of a business. This enables us to better serve our customers while using data to scale our customer base.
Merchant Cash Advance
A merchant cash advance is an option for businesses with poor credit or those who are just starting to build their credit and need access to capital. We've saved this one for last since it does cost more than invoice factoring or online lending.
A merchant cash advance or MCA, uses a percentage of your debit or credit card sales to advance you a lump sum.
This is similar to invoice factoring except MCAs are usually limited to debit or credit card sales. MCAs are available for businesses with credit scores as low as 500. In exchange for financing such risky businesses, MCAs charge very high fees.
In some cases, they can go into the triple digits. To give you an idea of what that means, the total fee amount can be 40% of the loan amount, creating nearly a 1.5X total repayment.
MCAs should be a last resort option. They can actually create more problems they are meant to solve. While you may plug your cash flow hole temporarily, things could get out of control as your loan repayment becomes a larger and larger financial burden. Think of MCAs as a business payday loan.
Many Financing Options Available Even With Bad Credit
As we've seen in this article, there are a number of financing options available to businesses with bad credit.
Taking steps to build your credit back up should be one of the first things you do.
Then shop around for financing. While you won't get a deal as good as a business with great credit, you can get a loan or line of credit with reasonable fees and rates, providing much-needed working capital for your business.
As customer orders are filled and cash coffers become adequate, the business can begin to stabilize and work toward paying down its debts. Along the way, you'll find that your business credit is improving and more doors to better financing options will begin opening.