Most business owners face a challenging financial dilemma at some stage because they require funds for growth, to acquire stock or machinery, or to pay the bills when business is low, but they lack the working capital or cash flow to secure a conventional loan. This is where Business Bridge Loans can come in handy. They can help a company continue processing orders while it waits for its cash flow to improve. In this blog, you will learn all the highlights of the pros and cons of bridge loans in detail to make a clear decision. Let’s start
What is a Business Bridge Loan?
Bridge Loan Financing is a form of short-term business bankroll that offers instant business funding to help ‘’bridge the financial gap’’ until the next funding source is available. It enables the business owners to meet short-term finance requirements where funding cannot be sourced elsewhere.
Bridge loans are usually secured as facilities against accounts receivable or inventory, which means financing can be arranged even where a business may not provide suitable collateral for a term loan. The loans are usually taken out for terms of 14 days to 1 year from the bridge loan lenders, although the most popular term length is between 3 to 6 months.
Pros of a Business Bridge Loan
Let’s start by exploring the benefits of bridge loans for small businesses one by one.
Quick Access to Capital
A vital strength of a business bridge loan is that it may be straightforward to obtain approval and access the needed financing quickly. Unlike traditional loans, bridge loans donot take days or a few weeks to process and, in some cases, might even take months. This makes them an appealing option for businesses that require immediate relief for any cash flow deficiency or pressing opportunity.
Emergency Funding:
An urgent expense may be an unexpected bill that just came in, the need to meet the payroll for your employees, or simply taking advantage of a business opportunity. These could require some quick cash, and a fast bridge loan for business is an ideal for offering this money in the shortest time possible.
Streamlined Application:
However, some essential facts must be understood to achieve the best results: bridge loans usually require fewer documents and formalities than traditional loans. Hence, the application appears to be approved faster.
Flexibility of Use:
Bridge loans are often versatile in terms of the purpose for which the money will be used. Unlike loan products specific to certain areas of use, such as inventory or equipment, bridge loans are a versatile financial tool. Common uses include:
- Temporary payment for employees before other forms of funding can be sourced.
- Paying suppliers or vendors.
- Purchasing inventory.
- In connection with financing business acquisition or expansion.
Short-Term Commitment
A small business bridge loan is generally intended to be temporary; most are written for 6-12 months. This implies that businesses can use the funds during cash shortfall without incurring long-term liabilities.
- Temporary Solution: The bridge loans are short-term. That’s why long-term liabilities on the balance sheets are not an issue.
- Quick Turnaround: The bridge loan can be closed shortly after the business has secured permanent funding or engages in a business deal.
No Long-Term Debt
By definition, bridge loans allow companies that are cautious about sustaining long-term obligations to secure funds. Because they are primarily expected to be returned in the short run, they do not provide a long-term source of funds on the businesses’ balance sheets. This may make bridge loans desirable for firms that wish to avoid having balance sheet debt over a long period.
- Temporary Financial Solution: This enables firms to meet urgent funds necessities without worrying about long-term indebtedness.
Easy To Apply
Oddly, the process of acquiring short-term business bridge loan can be less rigorous than that of getting traditional business loans. There can be less paperwork and documentation for reviews, meaning many businesses only need a short and complicated history to take a loan from lenders.
- Fewer Barriers: The companies would not be asked to fill in large volumes of financial documents, thus shortening the time taken during the business application process.
Seize Business Opportunities
A business requires bridge loans when there is a chance to get a better deal. For instance, you may see the possibility of buying cheaper products, buying out a rival, or launching an advertising campaign when you do not have the necessary cash at a given period. A bridge loan is suitable for obtaining the funds needed for these opportunities.
- Acting Quickly: Certain occasions require quick action, and a bridge loan offers the business the much-needed versatility to seize those opportunities.
Cons of a Business Bridge Loan
Although getting a bridge loan has many benefits, it has its demerits. Here are some potential drawbacks to consider:
High-Interest Rates
A commercial bridge loan or any other type of bridge loan is categorized as a short-term financing instrument with a relatively higher risk than most other loan facilities; they usually attract higher interest rates than most. These rates can be much higher and sharply higher than secured business loans, especially if the applicant’s creditworthiness could be more robust.
- Costly Borrowing: If not properly managed, the interest cost can be very high, making bridge loans an expensive means of financing.
- Hidden Fees: A higher interest rate is likely to be accompanied by charges such as setting up the loan, underwriting costs, and prepayment costs.
Short Repayment Terms
The other disadvantage of bridge loans is that they have a short repayment period compared to other popular forms of loans. Since most businesses are expected to repay the loan within several months, the availability of long-term funding or business transactions may be a pressure since cash flow is a significant area of concern.
- Repayment Pressure: Part of the loan must be paid in the short term, and if not paid, this will strain the borrowers’ finances, or they will be forced to borrow more money, which will compound the problem.
Risk of Default
Most bridge loans are against assets like inventory, equipment, or even real estate. Failure to repay or refinance the loan means the lender repossesses the assets. For businesses unable to access long-term finance when it is due, the risk of default creeps in as a significant possibility.
- Asset Risk: If the business can’t meet the monthly payments, then it risks losing the assets that secured it in the first place.
Potential for a Debt Cycle
If you cannot repay the bridge loan, it means they are still searching for long-term funding or have yet to be able to generate the expected income. This puts the business in an awful position because it has to take additional loans to repay the initial bridge loan. This could lead to a credit crunch, a situation of borrowing that leads to more borrowing and debt accumulation.
- Unsustainable Borrowing: One can become overly reliant on bridge loans or repay one loan by taking out another loan to pay off the preceding one.
Ambiguity in Long-term Funding
Bridge loans are created based on the probable occurrence of long-term funding or a business transaction that will generate the required capital to clear the bridging loan. Indeed, if these expectations fail, the business might end up with no precise mechanism of repaying the debts, which results in financial stress.
- Dependence on Future Events: The funding or sale will likely not be as anticipated, and the business may be surrounded by debt that it cannot pay.
Limited Loan Amounts
Bridge loans are meant for short-term cash requirements of property and, for the most part, can be an unsuitable finance choice for the long haul. If you require a large amount of money for your business, a bridge loan may not help you source the required amount.
Conclusion
A business capital funding loan can be a handy tool for businesses that require cash quicker than it takes for banks to respond to fund their expenses or take advantage of a business opportunity. However, it comes with some inconveniences, including high interest rates, a short repayment period, and the formation of a cycle of borrowing.
To avoid falling for a bridge loan, businesses must consider the following factors and other means, such as lines of credit or invoice factoring. As with any financing, it’s essential to know how the loan will be paid back and have a strategy for utilizing the funding.
Regarding small business bridge loans, it is always advisable to go with reputable lenders such as Purple Tree Funding to overcome short-term difficulties that can negatively influence business results. If you want to know more about How a Bridge Loan Can Support Your Business, be sure to read our financing types list and learn more about business capital funding for your specific goals.
