A Complete Guide to Small Business Financing

Small businesses play an important role in the growth of the Indian economy, contributing significantly to the output, employment and exports of the country. But many have difficulty growing or even surviving in an uncertain economy. One major problem that they usually face is the lack of capital. Fortunately, many sources of funding are available for small and medium scale enterprises.

Whether you own a startup or an established organization, you can choose from a plethora of financing options to raise capital for your business. Some business loans require collateral while others can be availed without one.

Here is a comprehensive guide that list all the major financing options available for small businesses -

Government funded schemes

The Government has launched a number of loan schemes to support the entrepreneurs of the country. Let us take a look at some of them -

Pradhan Mantri MUDRA Yojana (PMMY)

Under this scheme, there are three products - Shishu (up to Rs 50,000), Kishore (Rs 50,000 to Rs 5,00,000) and Tarun ( Rs 5,00,000 to Rs 10,00,000) as per the stage of growth and funding needs of the beneficiary micro unit.

Credit Linked Capital Subsidy Scheme (CLCSS)

This scheme aims at facilitating technology upgradation in Micro and Small Enterprises by providing a capital subsidy of 15% (limited to maximum of Rs 15.00 lakhs) on institutional finance availed by them for modernization of their production equipment. A loan amount of up to Rs one crore for investment in approved plant & machinery is eligible for calculation of subsidy under the program.

Credit Guarantee Trust Fund for MSEs (CGTMSE)

The scheme covers new and existing businesses up to Rs 200 lakh per borrowing unit. The guarantee cover provided is up to 75% of the credit facility, up to Rs 50 lakh (85% for loans up to Rs 5 lakh, provided to micro enterprises, 80% for MSEs owned/ operated by women and all loans to North East region) with a uniform guarantee at 75% of the credit exposure, above Rs 50 lakh and up to Rs 200 lakhs.

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Credit Guarantee Scheme for Subordinate Debt (CGSSD)

This scheme provides support to small businesses that are stressed and have become Non Performing Assets, as of April 30, 2020. The promoters will infuse this amount as equity, thereby enhancing the liquidity and maintaining debt-equity ratio.

Stand Up India scheme

This program provide loans between Rs 10 lakh to Rs one crore to at least one scheduled cast or scheduled tribe borrower, and at least one woman borrower per branch to start a Greenfield enterprise in the manufacturing, services or trading sector.

SIDBI Make in India Soft Loan for Micro, Small and Medium Enterprises (SMILE)

This scheme aims to provide soft loans with longer repayment tenure to existing and new businesses in both the manufacturing and service sector. The minimum loan amount is Rs 10 lakh for equipment finance and Rs 25 lakh for others. SIDBI has a Fund of Funds program to direct venture capital to start-ups. It also offers indirect finance to medium and small enterprises through the special liquidity scheme.

Loans offered by financial institutions

Many financial institutions offer working capital loans for day-to-day operations. They also provide term loans for the purchase of plant & machinery and other fixed assets.

Working capital loans

This type of loan makes it easier for business to finance their daily operations. Here are the various types of working capital loans -

• Overdraft facility – You may use the overdraft facility up to a sanctioned limit.
• Cash credit loan – You may utilize the pre-approved cash credit loan to meet the needs of day-to-day or seasonal financing.
• Bill discounting – You may discount your bills with the lenders on urgent requirement for liquidity, with a charge. The lender will make the payment upfront and present the bill to your client at the end of the tenure.
• Business cards – Financial institutions offer business cards to meet the short-term credit requirements of micro and small units as well as traders.
• Short-term unsecured business loans – These loans offered by financial institutions usually have tenure of 1 – 3 years. The borrower does not have to pledge any assets as security.
• Letter of credit – Your supplier received a Letter of Credit from the financial institutions that pledges complete payment after the delivery of the supplies.

Term Loans

Businesses, looking to meet their financial needs like capital expenditure, business expansion and purchase fixed assets, can be avail this option in the following ways -

• Secured Term Loans – Financial institutions usually offer these loans against the collateral of a residential, commercial or industrial property.

• Loans to fund the purchase of commercial vehicle or construction equipment – Small businesses can avail these loans by using purchased vehicle or equipment as the collateral.

Flexi-business loan

These are new age business loans where a borrower gets a credit line limit, which can be used whenever necessary. Businesses can take this loan to fulfil their various needs including capital shortages, equipment purchase, business expansion and more. The biggest advantage is that the interest is charged only for the utilized amount not for the full credit limit.

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Pre-approved loan

It is a facility that financial institutions offer to borrowers with a good credit history, provided they meet a few criteria. A borrower can avail this loan with minimum documentation and maximum ease.

Peer-to-peer lending

Peer-to-peer or P2P lending is the practice of lending money to individuals or businesses without a financial institution participating as an intermediary. This is generally done through online platforms that match lenders with the potential borrowers. However, such lenders have an upper lending limit of Rs 10 lakh, so only micro units can avail of loans through the digital P2P platforms.

Also Read: 3 Ways To Finance Your Small-Scale Business

Electronic platform for trade receivables

Many small businesses face liquidity problems because of delayed payments from clients, including the government. Besides the regular working capital loans, you may avail short-term finance through the trade receivable and discounting system or the TReDS platform. On this electronic platform, you can discount your trade receivables through multiple financiers.

SMEs are the sellers of the trade receivables while large companies, public sector units and government departments are buyers and financial institutions act as financiers. The seller uploads the invoice as a factoring unit. When the buyer accepts it, an e-auction is conducted where multiple financiers bid for the factoring unit. After the seller finds a suitable bid, the financier provides with the agreed rate of discounting. The financier is repaid on the agreed date of the invoice. The discounting on the TReDS platform is transparent and more competitive than bill discounting.

Crowdfunding

Many small businesses find it difficult to raise finance from the institutional setup. Conventional methods of raising seed money is time consuming and involve much documentation. Start-ups can tap crowdfunding platforms to test the business before actually launching the product. There are various ways of crowdfunding, like donation-based, revenue-based, peer-to-peer consumers, reward-based and equity-based.

ALSO READ: Check Your Business Loan Eligibility

Conclusion

It is important to structure your borrowing requirements judiciously, so that your debt-equity ratio is reasonable and interest burden is manageable. With progress in the life-cycle of your business, your borrowing requirements are likely to expand. You can tap these various sources of finance to meet your requirements.