Why You Should Never Start a Business With a Loan

Starting a business can be a challenging but rewarding experience. Many entrepreneurs often turn to loans as a way to finance their business ventures, but is this always a good idea?

In the current economic climate, with the residue of the Covid-19 pandemic affecting businesses worldwide, there has been an increase in loan applications most especially in Nigeria, such as from loan apps like the Migo loan app, Okash, or Fairmoney, and other forms of loans like the NMFB household loan, and NIRSAL covid loan.

While loans may seem like a quick and easy fix to business financing problems, there are several risks involved that you should consider before taking on debt.

 Why starting your business with a loan may not be the best option and what alternatives you can consider.

First of all, getting a loan means paying interest on the amount borrowed. For a startup company, this is a big financial risk, especially if you haven't yet begun making a profit. 

According to the Small Business Association (SBA), 20% of businesses fail in their first year, and only about 50% of small businesses survive beyond the first five years. This means that taking on debt to start a business is a significant risk.

Furthermore, if you take on debt, you will have to make monthly payments, which might restrict your cash flow and prevent you from investing in other parts of your company.

For example, if you take Access Bank, FCMB, Union Bank, or GTB loans, this might seem like a good idea because they offer some of the best loans in Nigeria, but the interest rate is still set at an average of 16%, which is still high.

Secondly, taking on debt can also limit your ability to pivot or adapt your business model. If your business is not generating enough revenue or is not performing as expected, you may need to make changes to your operations, marketing, or product or service offerings.

Adapting a business model and the survival of your business also depends on the industry, for example, the restaurant industry, where high failure rates are common. 

According to a study by the National Restaurant Association, about 60% of new restaurants fail within the first year, and 80% fail within five years. Taking on debt to start a restaurant can be especially risky, given the high failure rates in the industry.

Thirdly, applying for a loan can be a time-consuming process, and approval is not guaranteed. Even if you are approved for a loan, the amount you receive may not be enough to cover all your business expenses. Additionally, loan applications can also negatively impact your credit score, making it harder to access financing in the future.

Additionally, at this period when Nigerian banks are facing transaction challenges, meeting the right personnel is time-consuming, and dialing the GTG customer care number or speaking with any bank's customer care representative on the phone for that matter has proven to be futile move.

What are some alternatives to taking out a loan to launch your business? 

Using your funds or assets to finance your company is one approach known as bootstrapping. You won't have to worry about making loan payments or repaying debt, making this a more sustainable strategy.

Consider crowdfunding or looking for investors as other options. When you look for investors, you may acquire financing in exchange for stock in your company while using crowdfunding platforms to raise money from a huge number of individuals.

For example, imagine converting $1000 to naira at N760 per dollar; that is N760,000 to invest in your business.

Offer Business Partnerships. For example, if you are running a fintech company or a tech sales company, you can partner with telecom service providers like Spectranet, Airtel, or MTN, who have worked with startups before.

Another avenue is to seek World Bank financial aid. They have been financing and training entrepreneurs in small and medium-scale enterprises across the world for years.

You can also apply for a business credit card, not to completely fund your business but to build your business credit score, so that, in the future, when your business is strong enough to manage all financial risks, a good credit score will come in handy.

Before you start your company on debt, seek out alternative means of funding, calculate the risk involved, be patient with success, and do not take on too many problems.