Debt: it’s one of the most common challenges small businesses face, and how you approach it can play a major role in their short and long term success.
While our society tends to approach debt as a necessary evil, something that needs to be dealt with as quickly as possible, the truth is that debt is a central aspect of the capitalist system, one that makes all kinds of ventures possible.
The question isn’t so much whether your business should take on debt (it probably should, in some cases) as it is what to do once you’ve taken on that debt.
This article will offer a few examples of good debt vs. bad debt, and will provide some practical solutions to help you make sure that when your business is in the red, you are making the right moves to ensure that growth continues and your liabilities are manageable.
Good Debt vs. Bad Debt
Let’s say that you run a small restaurant specializing in home cooked Italian cuisine. You started off renting a small property with a handful of tables on an unfashionable street because it was what you could afford. While things are still a bit touch and go in terms of revenue, you’ve had some good reviews and people clearly like your food.
You might decide that you want to apply for a small business loan so you can move to a larger space with more tables on a main road that gets a lot of foot traffic. While you are going to take on some debt in the short term to afford the move, you’re confident that the expanded space and better accessibility will bring in the revenue to cover it.
This is an example of good debt. While you are taking on a liability, you are doing so because you have reasonable expectations that this will help you bring in more customers and increase cash flow. You are spending money so you can make more money later.
Bad debt, on the other hand, would be taking out a loan so you could purchase a better sound system for the kitchen. The sound system is not going to increase the money you make, and while it might make work a little more fun, it’s going to end up being a loss for the company.
What to Do When You’re Underwater
Of course in some cases you simply don’t have much choice over the matter — if your oven breaks down, you can’t continue to operate without a new one. While it might be good debt, it won’t help you earn more money: it will simply ensure that you don’t stop making money altogether.
In situations like this it can make sense to consolidate your debt and approach it rationally so that you can decide how to move forward. This may mean taking out a loan to put all your debt in one place, or it could mean borrowing to pay the most urgent creditors. This isn’t an ideal situation, but it can be the best way to ensure that your business doesn’t collapse altogether.
Most North Americans — even North American business owners — have an almost irrational fear of debt. But if you approach debt thoughtfully, make sure that you are putting your money to good use, and develop a long-term plan for managing debt, it can be your passport to a better life and a more vibrant and successful business.