Thursday, January 30, 2014

Small Business Loans

Capitalism needs good debt to survive. The money to create a new industry, like the automobile at the start of the Twentieth Century, simply does not exist. It must be created through some combination of bonds, common or preferred stock, or outright loans. However, as with mortgages, there is only one kind of debt, bad debt, especially for small startup businesses without any assets or even a credit rating.

Here is the key problem to consider before taking out a small business loan, copied directly from the Small Business Administration Website.


“The SBA expects every 7(a) loan to be fully secured, but the SBA will not decline a request to guarantee a loan if the only unfavorable factor is insufficient collateral, provided all available collateral is offered. This means every SBA loan is to be secured by all available assets (both business and personal) until the recovery value equals the loan amount or until all assets have been pledged (to the extent that they are reasonably available). Personal guarantees are required from all owners of 20 percent or more of the equity of the business, and lenders can require personal guarantees of owners with less than 20 percent ownership. Liens on personal assets of the principals may be required.”

Something on the order of 50% of all small business will fail in the first four years. By year 10, more than 70% of all startups are gone. If you misjudge the amount of sales or cash flow required to stay afloat; if you or your family can’t stand the pressures of long hours and irregular income; if you fail to keep accurate and complete records or engage in some other common form of mismanagement; if you lack the knowledge or experience to properly deal with suppliers; if you are just plain unlucky enough to start the right business at the wrong time, odds are your company will go belly up.

If that happens, your creditors will come and take away your house.

On the other hand, I know of an instance where a young man turned a $30,000 loan to buy a used truck into more than a million dollar buyout and a full time job paying $100,000 a year. He lives in Western Pennsylvania where the oil exploration companies were paying $90 an hour for water trucks. Most of the time these trucks and their drivers would just sit; waiting at the well sites seven days a week 24 hours a day. A reliable truck owner could make a lot of money just waiting for something to happen. This young man actually did even better. He had an accountant shelter his truck in a corporation, making the expense of owning the vehicle a tax write off. Over time he bought additional equipment and hired some employees. Eventually a larger trucking firm began to buy out the independent operators. They made this young man an offer he couldn’t refuse that included a guaranteed contract paying him $100,000 a year for supervising their operations.

I don’t know how long the natural gas boom will last, but at least one young man is earning a very good living. More importantly, he has learned how to create and run a wealth producing tax paying business, lessons that will serve him well for the rest of his life.

In this case the collateral was the truck. That seems like an acceptable risk to me.

Having worked for the Government or large corporations most all of my adult life I really know very little about the small businessman other than what I have observed in my friends who have chosen to follow that path. However, I do believe teaching our children how to become entrepreneurs will become progressively more important as the number of “good jobs” has been declining for over three decades.

I remember one church dinner in particular. I was sitting at a large table with a number of other folks. I started up a conversation with a young man of early high school age sitting next to me. He was interested in all sorts of electronic contraptions, particularly microphones and sound equipment. As the conversation progressed, he expressed an interest in ultimately turning his hobby into a business. I tried to be very encouraging and supportive. I also tried to ask intelligent questions such as what kind of niche market would allow him to compete against the likes of Best Buys. I pointed out, Mapleshade as an example of a successful high end niche marketer. They make extremely high end stereo accessories, rebuild tube amps, and sell their own recordings of jazz and folk music. This conversation was obviously making his mother nervous. She started interjecting questions like, “Don’t you want to go to college?” I hope that someday he gets a college degree, runs a successful business, and lives a happy fulfilling life.

In How to Make Big Money in Your Own Small Business by Jeffery Fox, a couple of items were repeated so often they actually stuck with me.

First there are only three things any business can do for their customers.

1)make them feel good
2) solve their problem
3) some combination of numbers 1 and 2

The author also believes his 60/30/10 rule is critical to the success of any small businessman. He believes this rule applies to 1 man companies or even companies with even 10 full time employees.

60% of your time should be spent marketing and selling your product
30% of your time should be spent producing your product
10% of your time should be spent on administrative and managerial tasks

Of the 60% of the time spent in sales and marketing:

60% of the 60% should be spent in contact (personal visits, telephone, email) with existing customers. The author considers this so important that he recommends hiring a part time driver to allow the small businessman to work on his computer and telephone when going to visit customers in order to make certain they are happy.

30% of the 60% should be spent developing new, short term customers.

10% of the 60% should be spent developing new, long term relationships with short term customers.

By the way, the author considers a 60 hour work week a minimum for the successful small businessman (no exploitation like self exploitation). Now you know why I was never tempted to be a small businessman.

I guess the real secret to running a successful small business is discovering something that you love and would do for free that makes people feel good, solves their problems, and can not be done by too many other people. Now all you need to do is find a way to keep your cash flow positive as you feed your family and build your business without taking on any debt. Whew! No wonder I consider the successful small businessman the unsung hero of American capitalism.

Your country needs your courage, your work ethic, and the jobs you create.

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