No matter how successful an idea is, a business needs finances to grow, expand and make the venture profitable. Businesses can be of two types: one that produces goods for sale and the other that offers services to its customers. A good example for the production-based business could be companies producing anything from airplane to a pin, while service business could be anything like a courier or a food delivery service.
As the model of both the businesses vary, the needs of businesses vary, right from the skill sets of the human resources to assets required for business operations and the quantum and the kind of financing required. Production based business require assets/ equipment that produce the goods to be sold. On the other hand, services-based businesses are not equipment intensive. Service industry may require more of human capital.
While the kind of resources required for running the business may vary, one thing that remains constant is the need for finance. As with an individual, the need for credit may come up anytime for a business. It may also be a planned need for expansion of business. When it comes to business loans, there are different types of loans that can be availed based on the need of the business. Some loans are specific to the nature of business run.
It is important to know the different kinds of business loans available so that the enterprise can apply for the right type of credit. The various kinds of loans available to businesses in the service industry are:
#1. Working Capital Loans
These loans are available to businesses to run their day-to-day operations like paying of salaries, payment for utilities, debt servicing, website maintenance, etc. Working Capital Loans are generally short term in nature with tenures between 6-12 months. These loans are granted at a fixed rate of interest.
Working Capital Loans may take different forms like Cash Credit, Overdrafts, Commercial Papers, Bank Guarantee, Letter of Credit, etc. Certain working capital loans are granted against the security of a collateral if the company is new to banking with the lender or does not have a good credit score.
Companies could borrow working capital loans from traditional banks, Non-Banking Financial Companies or from Fintech Lenders.
Additional Reading: 4 Great Short Term Loan Options Every Business Owner Should Know About
#2. Term Loans
Although companies in the service industry do not need extensive equipment as in case of manufacturing companies, they may very well need term loans. All those loans which have a tenure greater than 1 year are called as Term Loans. These could extend up to 5-7 years or even longer depending upon the need for the loan and loan deciding policies of the lender.
As these loans are spread over a long term, the companies can use it to build assets like office space, warehouses, etc. These loans are also bigger-ticket loans than the working capital loans. Terms loans could also be used for business expansions or similar needs of the business. As these loans are spread over a longer period, companies have more flexibility in planning their finances and for meeting debt repayments.
Long term capital loans can be generally availed only with traditional channels of lending like banks or NBFCs.
Additional Reading: Types of Collaterals You Could Offer for a Business Loan
#3. Capital Loans
Capital Loans are meant for investment purposes of a business. These loans are also longer in term like the Term Loans. Capital Loans could come in the form of Debentures or preferred stock. These loans are against the charge of a particular asset of the company.
Unlike loans which are raised from a bank or an NBFC, capital loans like debentures or preference stock is the money from general public through an offer. These debenture holders are paid a fixed sum of interest similar to a bank loan. However, raising this form of capital requires a lot of background work. The company will have to be rated by a rating agency like CRISIL or ICRA, roadshows are conducted and the issue is opened for subscription to the public.
The process of issue of debentures is something similar to shares and they are also listed on the stock exchanges. It might be difficult to companies of smaller sizes to issue debentures to the public.
As said earlier, these loans are raised from the public, both retail and institutional investors could subscribe to the debentures issued.
# 4. Flexi Loans
Businesses may at times find it difficult to predict exactly the amount of finance required for various activities. This is true especially when the business is in initial stages of growth. In those times, it might become difficult for the business to avail the right amount of credit. They are stuck in a conundrum where availing lesser amounts of loan may set the business back while excess loans may see their interest costs rise.
Sensing this need of the businesses, in the recent times, flexible business loans have been introduced wherein the service sector company can get an amount approved by the lender but utilize and pay interest only on the amount withdrawn. Flexi Loans are also known as Line of Credit. These loans are very useful for businesses as they allow the much-deserved flexibility to the business.
For example, if you have a loan limit of Rs. 15 lakh and you need Rs. 8 lakh, you can withdraw it from your loan limit and transfer it to your bank account. Now, during the course of your business, if you realize you need only Rs. 5 lakh, you can part-prepay Rs. 3 lakh back to your loan limit. If you need more funds in the future, you can always re-borrow the funds you had repaid earlier.
Many fintech lenders and other Non-Banking Finance Companies are lending this kind of loan.
# 5. Personal Loans
When the business establishment is small, there is hardly any distinction between the promoter and the business for many reasons, like the length of the time business has existed or unavailability of credit history. This is also true of Proprietorship and Partnership forms of businesses.
In those times, personal loans can also be availed for use in business. But a word of caution, personal loans so availed are against the personal surety of the promoter, so if the individual is unable to pay back the loan, the personal credit score gets affected.
Personal Loans can be availed from traditional banks, NBFCs or fintech lenders.
Additional Reading: Can Personal Credit Scores affect business loans?
It is essential that the business carries out a thorough analysis of its business plan before applying for a loan. The basic premise of any kind of loan remains the same, whatever be the form of the loan, a prompt repayment of the same is the only way of keeping yourself creditworthy.