average investment > Effectively Managing Debt as a Small Business Owner: Strategies for Success

Effectively Managing Debt as a Small Business Owner: Strategies for Success

Just like individuals, businesses can find themselves burdened by excessive debt. While it’s almost impossible for a company to be entirely debt-free, it’s crucial for business leaders to be strategic about when and how they take on debt.

Recent studies indicate that roughly half of all small businesses fail within their first five years of operation. Among the multitude of reasons for this high failure rate, we find a lack of adequate funding, unfavorable credit arrangements, and uncontrolled debt.

Business loans are typically a sound financial decision for most companies when they need to boost cash flow or finance growth and expansion. However, the last few years have posed extraordinary challenges to small businesses, especially those that financially overextended themselves during the COVID-19 recession. Many businesses borrowed excessively without the means to repay their debts.

In such predicaments, small business owners must consider two options for handling their debt: attempting to rescue the business while seeking to settle outstanding obligations or allowing the business to fold while implementing an exit strategy that minimizes financial losses.

8 Strategies for Effectively Managing Your Debt

Investing one’s personal finances into the business is the first option that comes to mind for many struggling entrepreneurs trying to salvage their company and manage its debt. It’s a calculated risk that can yield success, but it’s not without its pitfalls. It should only be considered as a short-term strategy with a long-term payoff guaranteed.

Fortunately, using your personal finances isn’t the only option to keep your company financially stable. Here are some strategies you can employ to effectively manage your debt before it becomes overwhelming:

  1. Reevaluate Your Company’s Budget

Before addressing your company’s debt, it’s imperative to gain a comprehensive understanding of your current financial situation. Many business owners take this step only after they’ve fallen behind on monthly payments. Review your previous financial plan and make necessary adjustments to provide more financial flexibility.

Your company’s budget should include details of your income sources, variable expenses, and fixed costs. Additionally, implementing a cash flow budget to account for planned transactions beyond profit and loss, such as loan repayments, tax obligations, and owner’s distributions, can be highly beneficial.

A well-structured budget will help instill the habit of setting aside money to meet obligations like supplier payments, creditor settlements, rent, taxes, and other predictable expenses. Moreover, your accountant or business advisor can offer professional guidance to fine-tune your budget.

  1. Examine and Prioritize Your Debts

Addressing any problem starts with raising awareness about it. Therefore, before implementing debt management measures, conduct a thorough review of all your company’s liabilities, which may encompass:

  • Taxes
  • Overdrafts or bank loans
  • Commercial credit cards, including their interest rates and required monthly payments
  • Lease commitments or contracts
  • Staff-related liabilities such as salaries, pensions, healthcare costs, and employee benefits

Once you’ve assessed your liabilities, you can start prioritizing them. Identify which obligations impose the harshest penalties for late payment. For instance, failing to meet payroll can jeopardize your entire workforce. In such scenarios, it’s essential to prioritize these obligations.

  1. Create a Strategic Debt Repayment Plan

A debt repayment strategy won’t solve all your problems, such as the necessity to control the accumulation of total debt. However, it can save you a significant amount on interest payments. Here are two popular techniques for paying off debt more efficiently:

  • Debt Avalanche: This strategy involves allocating additional payments toward high-interest debts while making minimum payments on all other obligations. Many financial advisors recommend this approach for its potential to reduce overall interest payments.
  • Debt Snowball: The debt snowball method entails addressing smaller debts first. Once those are paid off, continue to allocate the same amount towards the larger debts. The advantage of this approach is that it can help build motivation and momentum by achieving small victories.

Both approaches come with their advantages and drawbacks. The debt avalanche may not work if you can’t maintain consistency in your payments, while the debt snowball may expose you to higher interest rates on other loans.

If you’re uncertain about which debt repayment method to pursue or how much additional payment your company can afford, consider seeking expert advice. You may opt to delegate debt management tasks to an accounting team or, if necessary, bring in an independent consultant to help your company get back on track.

  1. Enhance Cash Flow to Repay Debts

Being in debt is a less-than-ideal situation. Consequently, debt repayment should be a top priority for most companies. Here are a few ideas to boost your cash flow for debt repayment:

  • Improve Overall Efficiency: Enhancing the productivity of your employees and business processes or discovering new avenues to generate revenue can be effective strategies for increasing cash flow. Consider offering training sessions to improve your staff’s skill set or introducing new technologies to expedite task completion.

Introducing more sophisticated marketing strategies can also make a significant difference. While it may increase costs in the short term, a relevant and efficient marketing strategy can elevate revenue, providing resources to pay off your debt in the long run.

  • Optimize Inventory Turnover: Poor inventory management can rapidly deplete your financial resources. Consequently, it’s essential to manage it judiciously. Ensure that any future company expenditures are limited to genuinely indispensable items or those needed to meet unforeseen demand. When feasible, opt for suppliers offering return options for unused and unsold merchandise.
  • Negotiate More Favorable Terms with Suppliers: Effective accounts payable management can significantly boost your company’s cash flow and expedite debt repayment. Many vendors offer payment terms ranging from one to three months after delivering their goods or services. In contrast, you may be able to negotiate a discount for early payment, which can sometimes be as substantial as 10 percent. Ultimately, you may decide to terminate your contract and collaborate with suppliers offering more competitive rates.
  1. Review Loan Terms and Consider Refinancing

Given the historically low interest rates, now is an excellent time to reevaluate your loans to ensure you’re getting a favorable deal. The savings you can reap from this process can be substantial.

Refinancing also allows you to restructure your debt in various ways. You can consolidate multiple loans into a more manageable one, modify the length of your loans, or optimize debt tax deductibility.

Of course, these options are easier to pursue before internal problems arise because a thriving business with a solid credit history encounters less resistance when dealing with suppliers. However, even if your business isn’t performing optimally, it’s advisable to maintain regular communication with your company’s financiers to explore potential arrangements.

  1. Cut Your Expenses

If your business has accumulated a significant amount of debt, you are likely already mindful of your spending habits. However, if you find yourself with substantial debt that you’re unable to recover, you may need to reduce your expenses even further.

In challenging times, you must critically assess what your business genuinely needs. Scrutinize your budget for opportunities to save money. Even items you consider essential may not be so when examined more closely.

There are two approaches to lowering corporate expenses. One involves making small cuts, like reducing energy-intensive equipment and appliances. The other entails making a substantial one, such as moving to a smaller, more economical workspace. Both options may be viable depending on the extent of your debt.

  1. Seek Assistance from Friends and Family

While it may not be the most appealing option, turning to family and close friends can expedite your business debt repayment. They might be willing to help settle your debts, and you can repay them without the burden of high-interest rates.

Moreover, obtaining a loan from a friend or family member can be advantageous. They are often more accommodating and willing to collaborate than traditional lenders. As mentioned earlier, a family member or friend may charge a lower interest rate, or none at all. They may also permit smaller payments over an extended period, providing flexibility in your repayment schedule. You might make smaller payments in one month and larger ones the next.

  1. Consider Bankruptcy as a Last Resort

As a last-ditch effort, you can file for business bankruptcy, handing over your company to a trustee. The trustee’s responsibilities include selling the company’s assets, pursuing outstanding accounts receivable, settling unpaid taxes, and distributing any remaining funds to creditors.

Chapter 7 bankruptcy absolves you of personally guaranteed business debts, allowing you to move forward from a failed venture. However, keep in mind that your credit score will suffer for seven years due to this action.

In Conclusion

It’s perfectly normal for entrepreneurs to grapple with financial difficulties, so remember that you’re not alone. What’s essential is taking action. Do everything in your power to keep your company afloat, and explore as many local financial organizations as possible for potential assistance options.

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