Managing Seasonality & Financing Considerations for Small Businesses
Managing Seasonality and Financing Considerations for Small Businesses
One of the biggest challenges for small businesses is managing expenses and cash during seasonal business cycles. At ECG, we often finance companies that generate significant portions of their revenue during the spring or summer months. Landscapers, ice cream shops, restaurants and food service trucks often experience sporadic demand during the winter months. Seasonal small businesses require a working capital plan and a partner to manage through softer times, as well as to address peak seasonal demand. Cash planning is the key to success as you consider expenses and cash for seasonality. Here are a few things to consider:
- Leverage Historical Data: Seasonal demand will vary each year, but leveraging historical data to assess a “base case” plan along with “upside” and “downside” plans establishes a framework to understand capital requirements. These cases help business owners establish estimated cash flow ranges, constraints, and timing implications. It puts the business in a better position to understand cash needs to execute its plan.
- Understanding Variable vs. Fixed Costs: A key component of any business is understanding per unit product or project profitability. Increased sales, or scale, solve many challenges as the fixed costs are spread across a larger base. However, managing these fixed costs can be a challenge, especially during non-peak cash flows. Understanding what levers can be pulled on the cost side and its business impact provide better insights into capital needs.
- Timing of Funding: They often say it’s better to raise capital when you don’t need it versus when you absolutely need it. Business owners are often faced with the challenge of how much capital should I raise and how do I structure the repayment of it? What is the proper level of cushion? Successful business owners not only access capital for the peak demand periods, but also have a foundation to manage through seasonal slowdowns.
- Cost: While business owners certainly must consider all options, it is critical to plan for future needs when accessing capital. Funding sources can change their risk tolerance and a proposal that is available today may not be available in three months. For business owners that have projects or new growth initiatives, the most expensive form of capital is the capital they don’t have during the required timeframe to execute these initiatives.
- Once you determine your capital need, you must now consider what funding options are available to work through the seasonal swings of any business. Options include:
- Internal Cash Flow: This is the cheapest form of capital and involves recycling profits and cash in the business to pursue other growth initiatives. When the capital required is too large, there are other options.
- Business Credit Card: A business credit card can provide quick and fluid access to funds. It is a flexible solution with limited requirements to share significant amounts of historical performance data. Another benefit is limited restrictions on where or how you invest the capital. It’s a great option under the right circumstances, but challenges or issues can impact your credit and may be detrimental to raising additional capital.
- Bank Financing: Bank loans are a great way to secure funding, whether it is direct with the bank or access to the SBA. This can be a long process and the information required will vary. A bank or financial institution often requires assets for collateral and all checking accounts to be moved to that institution. The bank will also require personal guaranties. It likely will be the cheapest form of financing, but an owner must weigh the timing, business restrictions, and other onerous terms against the cost. Approval with any of these groups often depends on the business performance during the last several years.
- Online Lenders: Online lenders will provide a quick and easier path to access capital, but it does come at a higher cost compared to Bank Financing. The products typically take two forms – a small business loan or revenue-based financing. The requirements are generally three months of bank statements and an application with personal and business background. The term can vary from six months to 3 years with payment terms either daily or weekly.
- Equity Capital: The most expensive form of capital will result in dilution and giving up a share of future earnings or dividends. It also will require changes to operating agreements and potentially allows for an investor’s engagement in the business. The question often asked with dilution is will a smaller piece of a larger business be more attractive. Equity is viewed as the last resort due to its inherent cost but is a solution in situations of high growth or new initiatives.
In summary, small businesses can use a variety of methods to ramp up funding for their seasonal business. It is essential to plan ahead, research options, and choose the option that works best for your business.
Author: Tim Mages, Expansion Capital Group Chief Strategy Officer