While I generally advise many of our clients against the use of debt in their business, it can have its place, if it's being used as a tool and is managed responsibly. There are good reasons to have debt, such as loans. Here’s how I differentiate between the good and the bad (to avoid the ugly). Sorry…I had to throw that in there!
Bad Reasons to Use Debt for Cash Flow in Your Ecommerce Business
Here are just a few of the things you might tell yourself to justify putting your business into debt:
- It’s going to help me grow my top line revenue and that’s the only thing that matters.
- It’s being used as a band aid to cover expenses, but after Q4 I can pay it all back.
- It’s being used to buy inventory, even though I don’t know my gross margin on the products.
- I’ll be paying well above market interest rate, but it’s the only loan I can get.
- The repayment terms are inflexible, and the creditor takes their cut from my income before I get the money, but it’s the only loan that is available to me, so I’ll make it work.
Good Reasons to Use Debt for Cash Flow in Your Ecommerce Business
These are things you should be confident of before incurring debt:
- I have made a strategic decision based on knowing my historical numbers; being brutally honest about them. Also being brutally honest with what lies ahead in the marketplace.
- I know myself, and once the decision is made, I will be confident that I’m going to sleep at night instead of being constantly worried about making the payments.
- I need more funds for inventory, and I know my gross margins. There is enough margin to cover the interest and contribute to profit, paying myself, taxes and the operating expenses required to run the business.
- The loan comes at a reasonable price and with flexible terms.
Read the Fine Print in Lenders’ Terms
There are many different lending models out there and traditional loans can be difficult to secure. An expensive loan can suck all the excess cash out of your business and put you on the hamster wheel that requires you to borrow again. When the lender gets their funds before you get access to your income, you are left with less cash and the power to decide how it will be utilized day to day.
Create Growth Without Debt with Profit First!
We do have clients that are not using debt and still growing their business. Using the Profit First model, they are setting aside funds for Inventory, Profit, Owner Pay, Taxes and Operating expenses. They are typically making enough margins to also set aside funds for Market/Product Development. They bank these funds and as they roll out a new marketing strategy or a new product, they use them for this specific purpose. The available funds are what determines their timing for these initiatives. It allows them to grow organically, without funds from outside the business.
Using debt for good reasons and with good terms and growing organically using your own funds can both be good strategies for ecommerce businesses. I suggest understanding how comfortable you are with debt and how well you’ll sleep at night if you have debt in your business. For some people, knowing that they may grow “slow and steady” is fine because the loan would be a cause of worry for them. Others have done their homework and see a loan as a tool based on the best information they have available. They know that level of risk will not be a cause for undue worry. If you don’t have all the levers of your business dialed in, I can say with certainty that a loan is not the right tool for you at this point in time. Go a little slower and build a good foundation before you add that cost to your business.
Interested in Profit First?
If your ecommerce business isn’t where you’d like it to be in terms of profitability, check out my book, Profit First for Ecommerce Sellers. It answers important questions about how to implement Profit First in an ecommerce business. Take control of your money and your business, and put Profit First to work for you!
You can also sign up for the Profit First for Ecommerce Sellers Online Course. As a Mastery Level, Certified Profit First Professional, I will teach you why Profit First works so well for ecommerce businesses and the particular challenges for businesses that have physical products requiring inventory management. You will learn how your behavior drives your money management habits for your business and how you can set up your business bank accounts to work with your habits.