Question: I just opened a coffee shop in Ortigas last year. Business has been so slow, I don’t have enough cash to cover my expenses in the next two months. Is it wise to use my credit card to cover my expenses in the meantime? What about applying for a personal loan? What else can I do? – Email from Stewie*
Answer: Borrowing short-term cash can be costly, so you need to be careful in using it. Ideally, you need to match short-term financing for expenditures that you expect to recover in the short-term, too.
Many entrepreneurs get into cash-flow troubles because they borrowed short-term loans to finance long-term investments. Let’s say you invested in new equipment or opened new outlets, and financed the move by borrowing in the form of short-term loans; expect that you would be dealing with very high interest rates, because short-term loans normally charge high interest rates. The loan would just eat up most of the initial income that you would get from your new stores. If you could not sustain the desired sales, you would incur losses, which could accumulate until you run out of cash.
If you expect sales to improve in the next three months, consider taking a short-term loan to finance your cash deficit, but only temporarily.
If you expect to recover your cash flow immediately, you can use your credit card. But, as much as possible, settle everything the following month to avoid paying interest. If you cannot afford to pay in full, try to settle as much as half of the debt to minimize charges.
Avoid paying just the minimum amount mentioned in your statement of account. The minimum payment represents about 1 percent of your credit card balance, lower than your monthly interest rate of about 3.25 percent. When you pay only the minimum, interest chargers will accumulate on top of your principal. It may take you forever to settle your debt, because you will be technically paying only the monthly interest expense and not the principal debt.
Ideally, pay more than the minimum amount and the interest rate. For example, if you charged P100,000 on your credit card, and you were asked to pay a minimum of P1,000, pay more than the interest rate of 3.25 percent, or let’s say 10 percent or more, so you can bring down your balance.
If your business is really in dire need of cash, you may pay the minimum due in order to bridge the finances, but you must create a plan on how to settle it fully as soon as possible.
On the other hand, if you think that it will take more time for your sales to recover and you need a working capital to sustain you, consider a personal loan. This type of loan offers a lower interest rate compared to credit card, but you’ll need to put up a collateral. Depending on your arrangement and relationship with your bank, you can design the terms of your loan, say, how many years you want to pay and the mode of payment.
The longer the term of your loan, the lower the amortization payment you need to shell out. Some arrange to pay only the interest monthly, then pay the principal in lump sum in the future. This arrangement affords you flexibility in managing your cash flows because committed payment would be lower compared to the amortization payment, which includes interest and principal.
When you opt for a personal loan, make sure that the business will generate the sales you need to allow you to pay the loan. Otherwise, you may lose your mortgaged property to foreclosure, or, worse, you go bankrupt.
If you think that your business will have a small chance of recovering soon, you may probably have to rethink your business model. Perhaps, you may simply just close it and avoid the risk of prolonging the agony and incurring bigger losses in the future.
Managing your cash flow is critical to surviving the business. Forecasting your sales and expenses in the next three to six months will help in monitoring your performance. Knowing what will happen to your cash situation down the road will give you early warning signals, allowing you to be more prepared during crunch time.
Henry Ong, CMC, is president of Business Sense Financial Advisors. Email Henry for business advise, hong[at]businesssense.com.ph or follow him on Twitter, @henryong888.