Interest rates are at their highest level since the early 2000s. Higher interest rates mean borrowers pay more.
If you’re seeking financing to start or expand a business, the ability to service, or pay for, debt is the first concern.
Rates went up quickly over the last few years and, in some cases, doubled. Borrowers experienced the lowest rates in history just a few years ago (2.65%, Jan. 7, 2021).
Recently, a lender shared that a prospective borrower told them, “I came in last year for a loan and it was 4.25%, and now that same loan is 10.5% or more!”
Looking Back
Business owners who are not following financial news are shocked at the new rates. We’ve heard from several struggling to adjust to the new loan terms.
It is important to keep history in mind. According to Freddie Mac, mortgage rates from the 1980s were close to 19%, and fixed-rate mortgages were 18.63% on Oct. 9, 1981. Even so, the 50-year average rate is 7.76%.
Unfortunately, knowing history does little to reduce the sting of a more-than-double increase in the cost of capital.
Guarding Against Inflation, Unemployment
The Federal Reserve Bank is the force behind the increased rates while they fight inflation. Business owners’ costs are going up across the board, from the cost-of-goods-sold to wages to insurance and other non-regular expenses.
“If I paid interest of $35,000 on a million-dollar loan a few years ago, I’m going to pay $70,000 on that same amount today,” says Steve Roth of the NorCal SBDC Finance Center. “While inflation and a possible recession are on most people’s minds, the critical issue is unemployment.”
The implication is that people will generally keep going out to restaurants and spending on products and services if they have jobs. Substitution may happen as a result of the increasing costs, though.
As the Fed works to bring inflation back down to acceptable levels, the take-away is that business owners can worry less and concentrate on moving forward with the new terms.
Navigating the Current Landscape
What if a loan is necessary for your new business or expansion project, despite high rates? Here are some strategies:
Start with your own bank first. Generally, you’ll get a better offer from a bank that knows you and your business. While there are other ways to find financing, some options are no longer a good choice. For example, alternative financing with higher interest rates, such as credit cards, may not be worth the risk to your personal credit.
Cash flow is king. Show a positive cash flow and how debt will be paid from your investment. Potential lenders will appreciate seeing this highlighted in your loan package plan.
Ask for no prepayment penalties. This is useful if rates go down. Rather than being locked into a high rate, you can refinance to a lower rate with no penalty.
Be creative. In the past when interest rates were in the 18% range, land contracts or lease with the option to purchase were more common.
Hit the Books
More now than ever, business owners need to re-educate themselves on their numbers. This means checking margins, cutting costs, and raising prices.
For a thorough internal check-up, do these five things.
Review your profit margins. Go back and check all of your products and determine if adjustments are needed.
Go through your expenses. Cut costs that are no longer necessary or are not being used, find new lower-cost solutions, or entertain new vendors.
Check your terms. Tighten up your collections by requiring payment on receipt. If invoices are being paid over 30 days, add a late or interest fee.
Explore opportunities for a cash cow. New products or services can boost your revenue. High interest rates and inflation present new problems. Business is all about solving problems for customers, so consider ways to solve problems that will add revenue streams to your business.
Conduct market research and competitive analysis to better serve your customers and grow revenue. Find out what other businesses are doing. Make adjustments that fit your business and the needs of your customers.
Where to Find Help
The Arkansas Small Business and Technology Development Center offers customized market research alongside its business consulting services. Using these tools can help you identify strategies to employ.
In 2021, the strategy was to obtain as much money at low rates as possible and invest those funds in paying off higher-rate debt, getting better returns, or adding new products. Today, a different financing approach is necessary, and the ASBTDC is here to help.
The post Financial Strategies for Today’s Market: Coping with High Interest Rates first appeared on Arkansas Small Business and Technology Development Center.