Do you know what your business debt costs you?
What does your business debt cost you?For business owners, debt can be a double-edged sword. On one hand, it provides much-needed capital to expand, invest, or smooth out cash flow gaps but, on the other, it comes at a cost (much of which isn’t immediately apparent). In this blog, we break down the essential terms and concepts of business debt, as well as some of the costs we often don’t consider. Important terms to understand Before we delve into the nitty-gritty of the cost of business debt, let’s start with some important terms you need to be familiar with:
- Principal: The initial amount you borrowed, which you’ll need to repay over time.
- Interest: The cost of borrowing money, typically expressed as an annual percentage rate.
- Loan term: The duration over which you’ll repay the debt.
- Collateral: An asset you pledge to secure the loan, which the lender can seize if you default.
- Unsecured loan: A loan not backed by collateral, often with a higher interest rate.
- Amortisation: The process of repaying a loan through regular, fixed payments.
- Interest payments: Interest rates can turn a seemingly affordable loan into a significant financial burden.
- Reduced cash flow: Regular debt payments can limit the amount of money available for day-to-day operations, payroll, and growth opportunities.
- Opportunity cost: When a significant portion of your revenue goes to servicing debt, you might miss out on valuable opportunities.
- Stress and mental health: Constant financial stress can affect your well-being, leading to burnout and strained relationships. It can also impair your decision-making ability, potentially harming your business in the long run.
- Credit score: Your business’s credit score is directly impacted by how you manage your debt. A lower credit score can limit your ability to secure favourable loan terms in the future, impacting your ability to invest or grow.
- Loss of control: Debt often comes with covenants and conditions that can limit your operational flexibility. Defaulting on loans can result in the loss of control over your business, including potential foreclosure or a change in ownership.
- Reputation: Suppliers, customers, and investors may view heavy debt negatively, impacting your relationships and future business prospects.
- Cost of raising capital: If your business has too much debt, it can be challenging to attract equity investors or secure additional financing at reasonable terms.
- Legal costs: In some cases, struggling with debt can lead to legal disputes, bankruptcy, or other legal issues. These costs can be substantial, both in terms of money and time.