The rapid expansion of the financial technology industry, or fintech industry, has brought countless innovations to the financial services industry. Nowhere is this more apparent to small business owners than in the explosive growth of online lending.
Online business loans have become a popular financing option over the past decade as banks have scaled back on loans to small businesses. Small business loans made up nearly half of all bank loans in 1995; that share had dropped to about one-third by 2012, according to a Harvard Business School study titled “The State of Small-Business Lending”.
With the help of algorithms and new technologies, alternative lenders can offer quick and easy access to working capital, including term loans, lines of credit, and accounts receivable financing.
An Alternative to Bank Credit
Bank credit has been and continues to be the principal source of outside capital for small businesses. However, there have always been alternative forms of loan capital, including credit unions, Community Development Financial Institutions (CDFIs), merchant cash advances, equipment leasing, and factoring products.
Historically, this segment of the market has been small compared to the $700 billion in small business bank credit assets. Since the financial crisis and particularly during the economic recovery, there has been significant growth in innovative alternative sources of capital for small businesses.
This proliferation suggests that businesses are seeking non‐traditional credit because banks remain unwilling to lend or that this new wave of online lenders is providing capital to small firms with greater efficiency and convenience. The technology used by these alternative players is fundamentally changing many of the ways in which small businesses access capital, creating greater competition and price transparency.
Simplicity, Speed, and Service
According to the Harvard Business School study, the trend in online small business lending is driven by the “simplicity and convenience of the application process, speed of delivery of capital and a greater focus on customer service.” While traditional banks may view small business lending as high-risk, many nonbank lenders offer new and up-and-coming small businesses a way to secure the funding they need to grow.
Commonly referred to as online lenders, marketplace lenders, and alternative lenders, these unregulated, nonbank online lenders come in all shapes and sizes. Typically, they offer term loans, lines of credit, and financing for accounts receivable. According to Morgan Stanley, these lenders originated about $7.9 billion in small business loans in 2015.
A number of different online lending models are available for small businesses. Here is a quick summary.
Merchant Cash Advance
A merchant cash advance (MCA) provider like Fundera gives a business owner a lump sum advance that is repaid with a percentage of daily credit card sales. Repayments can also be structured so that you pay back the lender with a set percent of your total sales. Payments are made through fixed daily or weekly debits from your bank account, known as ACH (Automated Clearing House) withdrawals, plus fees, until the advance is paid in full. How much you’ll pay in fees is determined by your ability to repay the MCA.
On the plus side, you pay more when business is good and less when business is slow. However, MCAs have been known to carry annual percentage rates (APR), the total cost of a loan, including all fees, in the triple digits. By comparison, traditional bank loans typically have an APR of 10 percent or less, and online small-business loans have APRs ranging from seven to 100 percent. For many small business owners, the high cost and daily repayment schedule associated with MCAs can actually add to their existing cash-flow problems.
Small Business Loans
Many of the fastest growing models in alternative online lending are offering a middle path between banks and merchant cash advance lenders. These relatively new platforms are largely focused on “mid‐prime” businesses that are looking for a better product but may not necessarily qualify for a bank loan.
Leading the pack are lenders like On Deck, which provides $100,000 lines of credit and three to 36-month term loans up to $500,000, and Kabbage, a similar lender which offers six and 12-month lines of credit up to $100,000.
A relative newcomer, BlueVine is a hybrid that positions itself between other online lenders and MCAs. Launched in 2014, BlueVine offers credit starting at $5,000 for a business line of credit and $20,000 for invoice factoring, with weekly repayments. While this model may seem more attractive than an MCA’s daily payouts, failure to make payments comes with a price.
Peer-to-peer lending platforms connect institutional investors to your small business through services such as Prosper and Lending Club, which provides business loans up to $300,000 with one to five-year terms. Fundera and Biz2Credit connect borrowers with alternative and traditional lenders through comprehensive online marketplaces.
The Cost of Convenience
If you’ve been in business for at least a year and need quick access to cash or don’t qualify for a bank loan, online business loans are worth exploring. The biggest advantages are speed and ease of qualification.
- Application is relatively simple and can often be accomplished in minutes from your computer or smartphone. Online lenders have built proprietary analytical models based on alternative data sources. They look at FICO scores as well as criteria ranging from the business’s sales volume from credit cards to the number of social media friends and contacts.
- Online lenders typically look for businesses that have been in operation for a minimum of one year with revenues of at least $50,000. You can apply for a line of credit with BlueVine if you’ve been up and running for six months.
- If you are approved, the funds can be issued within days as opposed to weeks or months with banks.
On the downside of the equation, alternative loans can be very expensive.
- APRs may range from 20 to 80 percent and there are considerable penalties for not meeting repayment terms. Take advantage of the numerous Internet sites that compare various online lending terms, and be certain you understand the APR and all fees before closing on a loan.
- Some online lenders also do not offer prepayment penalties or savings. Whether you repay the loan early or not, you will owe the same amount of interest and fees.
An Alternative Financing Partner Invested in Your Success
Online lending is not necessarily for everyone. For business owners who are seeking a partner who is invested in helping them grow their companies, Summit Financial Resources bridges the gap between easy but expensive financing and lower-cost, harder-to-get loans.
We offer working capital loans for small to medium-sized businesses that involve using your accounts receivable and other assets as collateral. We can mix and match from a variety of product options to suit your needs, including invoice factoring, asset-based lending, inventory lending, and equipment financing.
Because Summit Financial Resources is not regulated like a bank, we can structure more flexible deals, take more risks, and make funding decisions quickly. We partner with our clients to reach their business goals, creating custom financing solutions with reasonable rates and a structure that banks and other commercial finance sources cannot provide.
In our experience, working with a lender who understands you makes for a better partnership down the road. Getting to know you means we may ask you for more detailed documentation than most online lenders. Although providing the requested information may seem frustrating, the information is essential in order for us to create a win-win for your business and for ours.
A multitude of options are available for small businesses to obtain the working capital they need to sustain operations, expand, and ultimately succeed. Whether you are just starting out or on the fast track to growth, Summit Financial Resources can help you understand which type of financing best meets your business needs and provide you with the quality user experience you expect and deserve.
Working Capital Financing is a few clicks away.
Summit Financial Resources specializes in working capital financing for small to medium-sized businesses that need increased cash flow. We provide working capital financing through invoice factoring, asset-based lending, inventory lending, and equipment financing.