It’s becoming more and more common for small businesses in all industries to seek finance from non-banks and alternative lending institutions.
Gone are the days of shady credit unions with storefronts in the rough end of town offering entrepreneurs absolutely exorbitant forms of financing.
With the internet becoming the tool it has for both business and play, hundreds of online lenders have created a new industry to help small business owners get a cash injection quickly and easily.
What is alternative business lending?
Banks are the most common source of funding for small businesses.
Simply put, alternative lending is a loan that’s secured outside of a bank or traditional banking institution.
The institutions that offer this finance are not the typical bank, but the way they provide funding, credit, or finance is different.
While the range of lending products or services is different to that of a standard bank, most non-bank lenders have something in common. They excel in non-traditional forms of lending.
As these institutions focus on only alternative business lending, they can create competitive products for small businesses. They don’t offer home loans; they don’t offer credit cards; they don’t offer trading accounts.
They offer finance options to small businesses, period.
How does alternative business lending work?
Working with lenders is similar, but also vastly different to working with a bank. The most significant difference is simply the product that’s on offer and the speed at which loans are approved.
The application, approval and lending process is usually much more streamlined. Banks are adamant on paperwork, underwriting, personal guarantees and so on. With alternative lenders, the underwriting process is as efficient as possible, and the process is usually all online.
Many small businesses need money as soon as possible due to time-sensitive opportunities being put in front of them. This may be for a stock shortage from a supplier, an insurance premium or a growth opportunity, but generally, time is of the essence. The most common reason for seeking alternative business financing is to foster innovation, growth and expansion, such as hiring more staff, expanding a product range or growing into new markets.
The fact is that these actions are time-sensitive and crucial to the growth and longevity of a medium-size brand.
While minimum amounts, interest rates and fees may be higher than banks, alternative lenders can follow the market closer, respond to trends to keep their products competitive, and are generally more likely to accept changes in repayment schedules.
For example, Booste is a form of alternative business finance for e-commerce brands, with repayments being a certain percentage of your monthly income. This means that your business can get the funding it needs and not worry about unaffordable repayments.
The pros and cons
Many business owners may be apprehensive of alternative lending options, as the institutions are not as well known and trusted as giant banks. But the fact is that many alternative lenders have a proven track record of helping SMBs grow and take their business to a new level.
The difference between alternative business lenders and traditional lenders isn’t always clear and may present more risk than an SMB isn’t willing to take.
Here are several pros and cons to working with alternative lenders:
- Almost all alternative lenders are also online lenders that leverage the latest financial technology.
- This translates to the loan application process being easier. Basic business details, a credit history, a list of business assets and monthly turnover is often all that’s needed on a loan application.
- The underwriting and approval process is usually quicker compared to traditional lending.
- For businesses that need to move or change quickly and get a quick cash injection, going from application to approval in a matter of hours can be the difference between exponential growth and stagnation.
- Alternative lenders offer loans and financing options that are more suited to your business.
- Rather than a fixed monthly repayment, a very seasonal brand with its income can opt for its repayments based on a percentage of that monthly revenue.
Flexible repayment options associated with alternative lenders make it easier for brands to keep cash flowing where it needs to while still meeting the commitment to repaying their business loan.
It’s important to note that the ‘cons’ of alternative loans vary depending on the type of business loan.
- Interest rates for business loans from alternative lenders may be higher in comparison to traditional banks.
- Short term loans or merchant cash advances are beneficial for a business when an opportunity arises, but can end up being more expensive when compared to forms of traditional lending.
- Alternative business loans may also involve more risk. For example, an unsecured business loan might require a personal guarantee from a founder or business owner.
Alternative lenders like Booste however don’t require personal guarantees because of the model used to assess the income of your business.
Nonbank and Alternative lending demand
Online-based alternative lenders have shaken up the banking industry and will continue to do so. The pressure that digital innovation has put on traditional lenders is beneficial to small and medium business owners in a revolution of lending options.
A 2018 report by the SME Finance Forum shows there was a funding gap of $5 trillion between the needs of SMBs and what’s available to them.
The fact that many of these non-bank lenders offer unsecured business loans, peer to peer lending, business credit and invoice financing shows that alternative finance is growing in popularity.
Revenue based financing as alternative business lending
RBF, also known as Revenue Based Financing, sees investors lending cash to growing companies in return for a percentage of the company’s monthly revenue.
To help you better understand how RBF works, let’s look at how Booste helps ecommerce startups.
Traditionally, startups are capital hungry, and repayments from traditional lenders are in fixed payments every month. For a brand that’s growing and scaling and unsure if this growth is sustainable, a fixed repayment every month can be deterring.
That’s where Booste steps in.
Booste can lend an ecommerce startup a lump sum of cash, like a traditional form of lending. But rather than a fixed repayment amount every month, it’s a percentage of the brand’s total profit dedicated to the loan repayment.
“In the first month of cooperation with Booste, we grew our sales by 64% compared to the last month in which we financed advertising expenses with our own budget. The second month brought 94%, and the third 162% increase in revenue.”Pawel Koszyk, CEO of Carpatree.
What can revenue based financing be used for?
On paper, the funds that come from RBF can be used for just about any part of your business.
But in reality, it’s most effective when used in areas with a direct (positive) impact on revenue. This makes sense, as the repayments come from revenue, so using funds to increase your revenue can offset the repayment amounts required.
Many of our existing customers say that their RBF capital is best spent on marketing materials. Most commonly, in the field of paid advertising on social media networks and search engines. Alternatively, entrepreneurs can use it to hire external marketing agencies to help double down on existing marketing efforts and foster faster and more sustainable growth.
“Thanks to financing from Booste, we increased our marketing activities by as much as 75%. Additional funds freed our budget for other investments. As a result, we are entering the market in Germany in May, and in the following months also in Great Britain.”Mateusz Zalubski, Chief of Growth Supersonic
Another common area that e-commerce brands put the RBF income into is more inventory. A great way to stifle a business’ cash flow is to increase the amount of stock sitting on shelves and wait for it to be sold. But with RBF, cash flow doesn’t change as it’s a percentage of revenue that’s dedicated to the loan repayment. This works hand in hand with the idea mentioned earlier of using RBF to increase marketing efforts.
Benefits of revenue based financing
One of the overwhelming benefits of RBF compared to VC funding is that ownership and control aren’t diluted. This means that the company’s founders stay in control of the business while simply sending a percentage of profits every month to loan repayments.
While there’s also no dilution of ownership, there’s also no need for personal collateral to be put up as insurance. With no personal guarantee against the loan, founders don’t have to risk any of their personal assets.
Requirements for RBF funding are often much more lenient than VC finding, with loan amounts based on gross margins, MRR and annual growth. In most cases, the approval time is in a matter of days, if not hours.
What to look for in alternative business loans
Not all alternative lenders are created equally. Some may excel in working with e-commerce brands; others may excel in working with startups.
What’s most important is that you spend the time finding an option that’s best for you.
That being said, there are some specific things to look for in a lender.
The product. There’s no use looking at invoice financing if you need advertising capital. Find a lender that offers the right type of financing for what you need.
Accessibility. Do you need to go into a branch to prove your identity, or is the lender entirely online?
Simplicity. How easy is it to work with the lender? Do they need to or want to understand your business? Can they help you ensure that you’re spending the loan effectively and efficiently?
Requirements. What type of collateral does the business need to put up? Are you willing to take the level of risk required with this lender?
Approval time. Is the time between applying and getting the money a matter of hours or a matter of weeks?
Repayment options. Fixed or variable repayment rates? Monthly or weekly payments? Flexibility in a lender is a significant benefit to you and your business operations.
Getting money from a lender is not unlike going into a long-term partnership with another business. The lender’s reputation is critical, so spend the time getting to know your lender before you pull the trigger.
Alternative business loans make it easier for businesses to operate in a way that’s best for them, without the collateral of traditional bank loans. Revenue-based financing specifically gives startups another way to grow beyond looking for venture capital and having to dilute their ownership.
While some forms of alternative lending do have different interest rates and repayment methods, they introduce flexibility for growing and scaling brands. When comparing alternative funding to traditional business loans from banks, it’s easy to see why they’re growing in popularity.
To see how Booste can help you grow and scale your ecommerce brand through revenue-based financing, reach out to us.