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When Should a Small Business Get a Line of Credit?
A friend of mine ran a business doing $12 million a year in revenue. Most of that revenue came from contracts. He had customers, employees, and plenty of work.
And he still ended up declaring bankruptcy.
It wasn't because nobody wanted to buy what he was selling. The business had revenue. What it didn't always have was enough cash when it needed it.
Eventually, expensive short-term financing became part of the problem.
It's a frightening lesson for any small business owner, and one I've come to appreciate after years of running my own business.
Revenue doesn't pay your bills. Cash does.
Why Profitable Businesses Can Run Out of Money
One of the great misconceptions about running a business is that more sales automatically means more financial security.
Sometimes, more sales actually create more financial pressure.
You land a large contract. Great news! Now you need to hire people, purchase materials, and cover operating expenses before the customer pays you.
I've seen this firsthand in catering, where the financial challenges of running a catering business often have less to do with cooking than with paying for everything before the customer pays you.
Your income statement might look terrific. Your bank account tells a different story.
I know that feeling. For years, I experienced it every payday, until I developed a better system for managing small business cash flow.
And payroll doesn't particularly care that you've got a $100,000 invoice waiting to be paid.
This is how businesses with millions in revenue can find themselves desperately searching for cash.
The Dangerous Appeal of Easy Business Financing
A recent Wall Street Journal article about merchant cash advances describes how business owners can become trapped by expensive short-term financing.
The appeal is understandable.
You need money quickly. Traditional banks aren't interested, or their approval process takes too long. Meanwhile, another lender promises funding in days, sometimes hours.
The money arrives. The immediate crisis disappears.
But the repayments start almost immediately, often daily or weekly, and they can be brutal.
Now you've taken a cash flow problem and added another expense to it.
Maybe you borrow again to cover the first advance. Then again to cover the second.
It's the business equivalent of digging a hole to get out of a hole.
My friend's experience is a painful reminder that having a successful business and having a financially secure business aren't necessarily the same thing.
When Should a Small Business Get a Line of Credit?
The best time to establish a business line of credit is when you don't need to borrow money.
That's the lesson.
Notice I didn't say borrow money when you don't need it.
There's an important difference between taking on debt and establishing access to financing.
When your business is doing well, your financial statements are strong, and cash flow is healthy, banks are generally more willing to lend.
When your business is struggling, revenue is declining, and your checking account is running low, that same bank becomes much less enthusiastic.
It's one of the great ironies of business ownership.
The people most willing to lend you money are the ones who think you don't need it.
So prepare while you have the opportunity.
How to Establish a Business Line of Credit Before You Need It
You don't need a complicated financial strategy. You need to do a few things while your business is in good shape.
- Build a relationship with a bank. Don't wait until there's a crisis to introduce yourself. Find a business banker who understands your operation.
- Keep your financial statements current. Banks want to see profitability, manageable debt, reliable cash flow, and organized records.
- Apply when business is strong. A profitable year with consistent revenue gives you a better chance of qualifying and potentially securing favorable terms.
- Understand the costs and conditions. Ask about interest rates, annual fees, personal guarantees, collateral, renewal requirements, and whether the bank can reduce or cancel the line.
- Leave the money alone until there's a legitimate need. An available credit line isn't extra income. It's a tool for managing temporary cash shortages.
And remember, a line of credit isn't guaranteed protection. Banks can impose conditions, require renewals, or restrict access. You still need cash reserves and a business that can support repayment.
But having financing arranged in advance gives you another option when something unexpected happens.
Financial Security Is About Having Options
I've owned a business long enough to know that things rarely go exactly according to plan.
Customers pay late. Equipment breaks. Large orders create unexpected expenses. Revenue slows down for reasons entirely outside your control.
Sometimes several of those things happen in the same month, just to keep life interesting.
You can't anticipate every problem.
But you can prepare your business to withstand more of them.
That's what a line of credit is really about. Not spending money. Not growing recklessly. Not borrowing your way out of a fundamentally unprofitable operation.
It's about giving yourself room to make thoughtful decisions instead of desperate ones.
Don't borrow money you don't need. Establish access to financing while your business is strong enough to qualify for it.
The time to build your financial safety net is when you're standing on solid ground, not when you're already falling.
“Know what’s enough. Build what matters.”
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