What is alternative business financing?

Starting a small business is no easy feat, and in the current financial climate, it may just be more difficult than ever.

One of the biggest challenges is cash flow, with 9 in 10 businesses experiencing issues at least once a year.

As a result, many turn to funding agreements to get them through periods of illiquidity. However, with traditional loans notoriously difficult to qualify for - especially for new or small businesses - many sources of alternate funding offer a much-needed lifeline.

In this article, Stenn looks at alternative business financing and its potential advantages.

What is alternative business financing?

Alternative finance is an umbrella term for any form of funding outside of traditional bank loans and capital markets.

It is especially useful for businesses or individuals who would otherwise be turned down for a traditional loan. And many types of alternative finance are more flexible, allowing revenue to be repaid in unique ways, some of which do not include a traditional interest-based repayment.

Research suggests 79% of small businesses start with too little money and, as a result, tend to fail within the first year. And as half of small businesses that apply for traditional bank loans find themselves rejected, alternative financing can represent a viable solution for new or small businesses struggling with cash flow.

Advantages of alternative financing

Alternative financing has a broad array of potential advantages that can help new businesses to weather the first few rocky years of operation, as well as supporting small businesses to manage liquidity issues and more.

Below are several key advantages of alternative financing:

• Quick Access to Finance - Many alternative financing providers offer quicker and simpler access to funding than traditional lenders due to having less bureaucracy and red tape. This can be perfect for small companies looking for a fast injection of capital to help get them started, or long-running companies looking for a revenue boost to help navigate delayed payment terms or to market and sell a new product or service.
• Greater Variety - When expanding funding possibilities to include alternative finance, businesses have a wide variety of methods to pick from, with different terms and repayment methods. Each method of alternative finance has its benefits and drawbacks, but because there are so many types, a small company can decide what arrangement is best for them depending on how their business operates.
• Often Flexible Terms - With alternative forms of funding, there are terms to suit every business. For example, crowdfunding may work for businesses needing an upfront injection of cash to fund the manufacturing of a physical product it can then offer to funders, while another business may prefer to access invoice factoring as there are no long-term repayment obligations.
• Less Collateral - Most forms of alternative financing do not require companies to exchange collateral in return for funding, meaning there is no risk of stock or property being seized if the worst happens.
• Easier Credit Qualifications - Companies have an easier time receiving funds from alternative financing methods due to the lower credit requirements compared with traditional forms of lending.

Risks of alternative financing

Despite the many benefits of alternative financing, there are still several risks that must be taken into consideration to avoid implications for businesses later down the road:

• Legal Complications - While alternative forms of funding generally don't have many strings attached regarding high-interest repayments requiring a high credit score, there may still be repercussions for missing repayments, which can end in court action or worse. The best way to mitigate this risk is to plan exactly what a company needs to pay back and how it can be incorporated into the company's monthly budget. Planning is key to avoiding missed repayments.
• Legitimacy - Not every company is who they say they are, and it's easy to fall into the trap of false lender promises or shady companies. Fraud is a significant risk within the funding space, and it's important to mitigate the risk of fraud by doing proper background research on the investor or finance provider offering funding. It's best practice to accept investors with a track record of success or demonstrable funding history.
• Overwhelming Options - Often, when looking for funding, a business can be overwhelmed by the variety of options available. These options can often be hard to compare with each other, but doing the appropriate research into the type of funding available can make determining the best course of funding easier.

Equity vs non-equity financing

Alternative financing solutions can typically be categorised as either 'equity' or 'non-equity' funding, depending on repayment terms.

Equity financing is a form of funding service in which a company offers up a percentage of its business shares in exchange for capital, with no need to pay back a loan.

These types of financing are often attractive for small companies without the credit history or established cash flow to qualify for traditional loans - but come with the drawback of sacrificing some control over a business to an outside investor who is now a shareholder. Examples of equity financing include some forms of venture capital and angel investment.

Other forms of financing (aside from crowdfunding) outside of equity financing generally offer repayment terms that do not involve offering a stake in the business. This can be hard to manage for a small startup company on top of all other business overheads, but once the financial agreement is paid back in full, the business is free to do as it wishes without investor control.

What are the best alternative business financing options?

Understanding which types of alternative financing are available is essential to the financial planning process of any business, and it's wise to understand what type of funding is best for a business before committing to any decisions.

Below are several key types of alternative lending and funding solutions, and where they can provide benefits for businesses:

Invoice factoring

Invoice factoring is a method of alternative finance in which a company sells its outstanding invoices to a factoring company at a discounted rate. The business gets an advance on the money it is owed from those invoices, while the finance provider takes over the credit collection process.

This represents a faster way to access cash that is already owed to a business and therefore does not come with the risk of high-interest repayment terms. Invoice factoring is commonly used by businesses with capital tied up in delayed payment terms but with their own accounts payable obligations.

At Stenn, we specialize in invoice factoring for international suppliers, offering competitive rates and professional guidance throughout the process. Invoice factoring with Stenn ensures consistent business cash flow and financial security.

For more information, check out our comprehensive guide to export factoring, or get a quote today!

Revenue-based financing

Revenue-based financing is a funding service in which repayments are based on income, instead of a set repayment fee each month.

It is attractive for new or small businesses as repayments are directly proportional to business success.

Crowdfunding

This is a type of funding in which capital is raised by a large number of people that want the business to succeed. Crowdfunding is usually conducted through online platforms and is attractive for companies with a large volume of pre-established consumer interest in a product or service.

While crowdfunding has no strings attached in a legal sense, a business may still be beholden to the will of its backers who, as a collective, can easily boycott a business should they not follow through with their initial promises.

Grants

Grants are sums of money given by a business entity (public body, charity, grant institution etc.) to a smaller business to give them a quick injection of cash. This is usually available to businesses that these organisations are legally able to fund, and that have a specific purpose.

An advantage of a grant is that it comes with no strings attached, provided the company still aspires toward the same goals as the provider.

Angel Investing & Venture Capital

These alternative lending methods are both forms of equity financing.

Angel investors will provide a loan to a business in exchange for a percentage of its shares. Likewise, venture capital firms tend to invest in businesses they think will do well in exchange for a stake.

Peer-to-peer lending

Peer-to-peer lending is the facilitating of funds from one individual to another without the involvement of a financial institution to provide the loan.

While peer-to-peer funding has a higher return on investment to lenders than other forms of financing, it is also easily accessible due to the lack of regulation from financial institutions.

Merchant cash advances

Like revenue-based financing, merchant cash advances provide businesses with a lump sum in return for repayment based on the percentage of future sales.

The difference between the two lies in the fact that revenue-based financing can be repaid quicker during a spike in sales, with the repayment period being extended when sales slow down. However, merchant cash advances are expected to be repaid between three to eighteen months after the loan was granted.

Lines of credit

A line of credit acts as a pre-determined borrowing limit that a business can access at any time. Until the limit is reached, a company can continue to borrow money. Once these loans are repaid, a business can open another line of credit.

Lines of credit are useful for businesses that need to establish a flexible form of borrowing so that they can manage exactly how much they can borrow and how much they need to pay.

For more information on business lines of credit, check out our guide on the topic!

Alternative business financing advice

When it comes to deciding what method of funding is best for a particular business, it's important to weigh up the terms of each financing agreement.

How much funding does the business require and how much is available through each funding solution? What are the repayment terms and which is the most affordable? How quick and simple is it to apply, qualify and receive funding in the form of liquid capital?

The answers to these questions should influence how best to approach sourcing an alternative funding method.

Alternative financing with Stenn

Looking for an alternative to a bank loan? Businesses unable to qualify for traditional lending may be eligible for financing with Stenn.

If you are a business engaged in international trade with delayed payment terms and need a liquid capital boost, simply submit your unpaid invoices for an instant cash injection.

Stenn finances invoices for hundreds of small and medium-sized organisations with manageable payment terms, from revenue-based financing to invoice factoring. And we only require two documents to be signed to qualify for funding, so we don't need to see your credit score.

Apply for financing with Stenn today or find out about the other financing options available to your business in our Resource Hub - including guides to:

• Export factoring
• What is export finance and it can help your business in India
• Inventory financing 101: Types, pros, cons & alternatives
• Business credit score: How to check & improve it
• 8 examples of non-bank credit options

Frequently asked questions (FAQs)

Q: What are the benefits of financial planning?

A: Financial planning provides several essential benefits to any business, such as an improved first-year plan that helps weather startup costs and initial loans or revenue sinks, as well as methods of cost-cutting and affordable asset acquisition. 

Q: What is the difference between traditional and alternative financing?

A: Traditional financing typically refers to standard loan agreements, in which businesses borrow money that must be repaid by an agreed date with interest. This is typically offered by banks. Alternative financing is an umbrella term for any form of financing that lies outside those traditional boundaries and often includes different ways of accessing and repaying funding. This includes invoice factoring, revenue-based financing and merchant cash advances.       

Q: Why use alternative business financing?

A: Alternative business financing presents flexible ways of accessing and repaying funds compared with traditional bank loans. This is useful for businesses that may not qualify for traditional lending due to their director's credit score or a lack of history of repaying loans.

Q: What are the risks of alternative financing?

A: While alternative financing provides a more flexible method of providing cash flow for small businesses, it comes with several risks for businesses that fail to conduct due diligence. These include potential court action, fraud and an overwhelming number of options. Fortunately, these issues can all be counteracted with proper market research and financial planning.

About the Authors

This article is authored by the Stenn research team and is part of our educational series.

Stenn is the largest and fastest-growing online platform for financing small and medium-sized businesses engaged in international trade. It is based in London, provides financing services in 74 countries and is backed by financial giants like HSBC, Barclays, Natixis and many others.

Stenn provides liquid cash to SMEs within the global financial system. On stenn.com you can apply online for financing and trade credit protection from $10 000 to $10 million (USD). Only two documents are required. No collateral is needed and funds are transferred within 48 hours of approval.

Check the financing limit available on your deal or go straight to Stenn's easy online application form.

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Disclaimer: The above article has been prepared on the basis of Stenn's understanding of the subject. It is for information only and doesn't constitute advice or recommendation. Whilst every care has been taken in preparing this article, we cannot guarantee that inaccuracies will not occur. Stenn International Ltd. will not be held responsible for any loss, damage or inconvenience caused as a result of anything published above. All those applying for credit should seek professional advice when doing so.