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CEOs

When Considering a Business Loan, Does Price Matter?

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At first glance, the following question seems simple enough that any college freshman enrolled in Business 101 could answer it.

When it comes to considering business loan options, does price matter?

On a fundamental level, the answer obviously is “yes.” The lower the general cost of capital, the better. Lower interest rates mean more money remains in company coffers.

But there are times when it might be better to take the higher-priced loan.

Let’s use a struggling e-commerce company as an example. The company badly needs working capital to continue its growth and make headway in an increasing crowded marketplace with well-funded competitors. Opportunities clearly are presenting themselves.

The company is holding about $3 million worth of inventory on its balance sheet and claims about $600,000 in accounts receivable.

Two loan options are presented, both featuring the same repayment interval.

One lender, which places a high value on the accounts receivable, offers a $500,000 loan with a 12% interest rate.

Another lender, which looks favorably upon the inventory stockpiled, offers a $2 million credit line, but at an interest rate of 16%.

Which would you choose?

In most cases, the small business owner will choose the smaller loan at 12%. They figure even a small loan will be enough to jumpstart their struggling business, and why pay more than you have to – you can always get another loan.

That may be reasonably sound thinking, but it’s awfully conservative, limits the amount of growth you can hope to achieve and leaves you at the mercy of a lender at some time in the near-distant future when your growth prospects – and your company’s bottom line – may or may not be as favorable.

Think about it.

Having $2 million to work with (four times the amount of the lesser, lower-interest loan) can make a huge difference to a small company.

Want to develop new products? You have the money to do it.

Hope to expand your distribution network? Ditto.

Need to start a full-fledged marketing or advertising campaign? The funds are there.

If you settle on the smaller loan, you may well have to prioritize. That could mean forgoing something, such as the advertising campaign (advertising, marketing, and public relations are the first things to be cut when money is tight), or skimping on all aspects of your plan. Perhaps you still can accomplish your goals on the smaller budget, but it’s a lot harder to do.

More importantly, you’re betting on yourself by taking the bigger, higher-priced loan.

If you have a good business plan, a strong product or service, a smart management team and, above all, opportunity, it’s not time to be timid. In a sense, getting the larger loan is an investment in your company’s raison d’etre.

If your instincts are correct – and everything is ready to click into place – why not capitalize in a big way, rather than having to seek more funding a relatively short time later?

And consider this: Success breeds more success.

Say your company’s prospects are soaring thanks to that $2 million loan, which you can easily pay back, even at the higher rate.

Now you’re looking for an even bigger infusion of capital – maybe $10 million – to make you a real player in your field.

Given your track record of success, lenders will be more than happy to work with you. Thanks to your bold move to take the higher-priced loan, you’re now considered a good financial risk, meaning you’ll likely be securing a loan at well below 16%.

In the long run, you’ve saved money.

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