business-funding.jpgOne of the best way to attain financial freedom is to look for a second income stream. This could vary depending on your skills , time and desire ranging from a side hustle to part time business or even becoming your own boss. Regardless of the route you take, you will always need funding to start, maintain and expand your business. It is therefore crucial that you have some knowledge of the different types of funding available and which one will best suit your needs.

I have assisted a friend of mine to obtain funding from the bank to facilitate opening a second branch for his shop. This funding came in form of a term loan over a period of 5 years. To obtain this funding,  we had to undergo thorough review to ensure that his business will be able to afford the monthly repayments.

Most recently, the demand in his business has been growing and he is needing more money to  buy stocks, machinery and open a third branch. So we are looking at obtaining additional funding from the bank to facilitate this and hence  are going through the same process.

The bank approached him to offer him an overdraft facility to fund this expansion. Although this looks like a less onerous approach to get funding, there are pros and cons to this , my main concern being the matching principle.

In finance, the underlying rule of thumb is to always match the term of the funding to the term of the needs. E.g if you are looking to buy stock and other short term assets, you should be looking towards financing that will is short term in nature. This includes things such as the use of an overdraft or buying with a credit card. It could also include buying the items on credit and paying it off  once you have received payment from customers. In this case, you just need to negotiate a payment term with your suppliers that is longer than the term you are giving your clients to pay.

If you are however looking for funding for capital expansion, then the ideal will be to go for a term loan. This is because, the term loan is repayable over a longer period and funding is provided at a cheaper rate compared to the short term funding. In addition, you are less likely to recover the amount of money you invested in over a short period of time and hence you need more time to pay back.

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Therefore, if you are looking at getting funding , please assess why you need the money and whether you will be able to recover the money you will need in the short term or not. If you can recover it by either selling the stock , your options are overdraft or credit card or buying on credit. Otherwise go for a longer term loan.

In addition, know that in as much as the bank is there to help you, they will do it from their perspective. What might be best for them is not necessary what is best for you, so before you commit, run it past it someone knowledgeable in the subject matter. And most importantly, shop around for better interest rates.

What are you buying on a credit card or with an overdraft at the moment?

Love

Dhalondoka

 

 

3 thoughts on “Matching Principle- which funding is right for me?

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