Obtaining bank financing has always been difficult for certain businesses and the current economic environment is making it even more so. Unfortunately, widespread turmoil in markets both at home and abroad, rising inflation and recession have resulted in many traditional banks tightening their lending standards in 2023. These decisions come down to risk and as banks get ever more conservative with their eligibility criteria, lots of them are now unwilling to take a chance on small businesses. Fortunately for business owners, this is where alternative business funding provides a light at the end of the tunnel. 

What is Alternative Business Funding?

Alternative business funding is essentially any other route for businesses to access working capital, when traditional options, such as bank loans, are not available to them. Some sources will cite Small Business Administration (SBA) loans as an alternative funding source, however they are still a bank loan in essence, just underwritten by the government so that banks may lend to slightly higher-risk clients. An SBA loan has similar, restrictive requirements for business borrowers as a traditional loan might have and the application process can be lengthy so it won’t be suitable where a quick influx of capital is needed. 

True, non-bank lending can include:

• Online lenders

These lenders have become an increasingly popular option for business finance, offering a range of financial services that are transacted entirely online. Borrowers will never normally meet anyone from the lender and technology is leveraged to automate and streamline the process throughout. This can be a fast and efficient process, however, loan sizes can be limited which may not meet the needs of larger businesses and tenure is often shorter, potentially increasing the size of repayments and putting more strain on the business’ cash flow.. 

The lack of in-person support will be a drawback for some businesses who prefer to have a personalized approach and build a long-term relationship with a lender who values their business and is invested in their success. 

• Angel Investors

An angel investor is an individual who invests their own personal funds into early-stage or startup companies in exchange for equity ownership. These investors are typically high-net-worth individuals who have a keen interest in investing in and sometimes, the mentoring of promising, very early stage businesses who have growth potential but don’t have the capabilities to take an innovative idea from concept to money-making.   

The expertise and flexibility of working with an angel investor, along with access to their extensive contact network, can be invaluable to entrepreneurs. On the other hand, securing finance from an angel investor requires a significant amount of time and effort and involves comprehensive preparation, networking and pitching your business effectively. It’s a highly competitive process and rejection is common. The primary drawback for many business owners will be the loss of control and ownership that the relationship represents as angel investment requires them to give up an often large equity stake in their company. 

• Venture Capital (VC) Investors 

Unlike angel investment, venture capitalists can be individuals or professional firms that invest larger amounts of money at a later stage of the company’s growth. VCs tend to be highly selective in their investments, seeking companies in innovative and disruptive industries that have the potential for very high growth. VC investments are inherently risky and investors seek significant returns on their investment to offset potential losses. Competition for VC funding is intense and entrepreneurs will be expected to give up substantial equity and management control of their business in return. 

• Crowdfunding

Crowdfunding is a method of raising capital or funds for a project or venture through the collective effort of a large number of people (the crowd), via an online platform. There are various types of crowdfunding for both individuals and business ventures but businesses would typically raise funds on either an equity or debt basis. Equity crowdfunding enables individuals to invest in a company or business venture in exchange for equity or shares whereas debt-based crowdfunding, also known as peer-to-peer lending, involves individuals lending money to businesses and receiving interest on that investment. 

The benefits of crowdfunding include access to capital from a wide pool of individuals, validation of market interest and exposure for the business. Crowdfunding campaigns won’t always reach their funding goals however and it diverts much time and resources away from important business activities in order to create a compelling campaign, produce content, engage with potential investors and stand out from the crowd online. 

•  Merchant cash advance

A merchant cash advance (MCA) is a type of financing option available to businesses, particularly those in the retail or service industry, that generate revenue through credit card sales. It can be viewed as an advance on a business’ future card sales. An MCA does offer quick access to funds, with flexible repayment terms and is generally unsecured so borrowers won’t need to provide collateral against the advance. 

All of this comes with a flipside however. MCA providers are notoriously under-regulated compared to other finance options, leaving businesses open to more unscrupulous practices and onerous fees. An MCA is regarded as one of the highest cost forms of financing a business can use and the withholding of a percentage of credit card sales can impact a business’ cash flow further, leaving them to struggle to cover other operating expenses. Those businesses that rely too heavily on MCAs, taking out new ones repeatedly to cover the cost of existing ones, may find themselves trapped in a cycle of debt they can’t return from. 

• Grants

A grant is essentially free money given to entrepreneurs and small business owners to support them in starting or expanding their business. Grants do not have to be repaid like a traditional loan and while there are hundreds of government and non-government grants available, they often apply to a specific demographic or industry or a minority group and come with very specific restrictions on what they can be used for. 

Given that it’s free money, a grant is not easy to attain and the stringent application process can deter many businesses from applying. Working with a local business support organization to collate all the required documentation and prepare a case can increase the chances of qualifying for a business grant but it won’t be quick and competition will be fierce. A great deal of businesses, particularly newer, won’t have the level of documentation necessary and a grant likely won’t be suitable for any business that doesn’t have a pristine track record. 

• Accounts Receivable Finance

Accounts receivable finance, also known as invoice factoring or invoice finance, is a type of financing that allows businesses to access the value of their outstanding invoices before they are paid by their customers. This generates immediate cash flow by converting unpaid invoices into immediate working capital that they can use to pay suppliers, meet payroll or invest into their business. 

The cost of invoice factoring is typically a little higher than bank funding, but the advantages are generally enough to outweigh this. Businesses can access funds quickly, usually in a matter of days and the facility can scale as the business grows providing a flexible funding solution that aligns with the business’ sales growth. Furthermore, there is no debt added to the balance sheet and borrowers can lean on the factoring companies’ expertise to mitigate risk and reduce costs through value-add services such as credit assessment of new clients, payment collection and customer service support. 

Bank Refusals Often Rule Out Alternative FInance

52% of businesses in the U.S. have unmet financial needs and many of them will have experienced a loan refusal. According to research by Zippia.com, loan approval rates for small businesses applying to large banks are just 13.8% and approvals from small banks sit around 19%. 

There are various reasons why banks will refuse a loan application but the most common ones are usually the reasons why the business would struggle to qualify for some alternative financing methods too. Bank loans are routinely refused due to a poor credit score, lack of time in business, lack of collateral and lack of documentation to reassure banks that their investment is safe. Qualifying for SBA loans, grants and some other alternative finance sources will also require these elements. 

Accounts receivable finance is a real contender to traditional bank loans however, standing out as a unique proposition for business borrowers. Factoring companies focus on the strength of your current customer base and order book, looking at your client’s creditworthiness as an indicator of your ability to succeed and grow; they also have less stringent documentation requirements that allow flexibility in providing solutions for newer businesses and for those whose cash flow hasn’t been favorable. Factoring appeals to B2B businesses in diverse industries and is growing in popularity as a non-debt solution to working capital needs when banks can’t help. 

The Bottom Line on Alternative Business Finance…

Whilst a rejection for a business loan can be disheartening, it’s good to know that there are still other options and lenders willing to help. In most cases, the slightly higher cost of invoice factoring for example, will be far outweighed by its benefits. Determining all of your options, including alternative sources of funding can also prevent you from making too many loan applications and hurting your credit score. 

Sallyport uses very different criteria for assessing finance eligibility than traditional financial institutions. We’re more interested in your future prospects than where you are today. If you’ve been rejected for a bank loan or think you may struggle to qualify, reach out to our team today for advice.