As a small business owner, meeting and navigating financial obligations might not be the most intuitive of activities but it is a critical aspect of ensuring long term success.

While debt is often necessary for ongoing growth and operational stability, without effective management, it can become a rather debilitating liability.

In this blog, we’ll help you understand what debt is, why managing debt is crucial for success, and suggest some actionable strategies for taking your debt handling to the next level.

Taking on Debt as a Small Business

The term ‘debt’ refers to borrowed funds. For a small business, loans and debt can be taken on to finance a wide range of activities. It can be used to fund ongoing and daily operations, investment in market opportunities, or to purchase new assets, machinery and inventory.

The most traditional and commonly known form of debt is a business loan, however there are other forms, such as lines of credit.

As mentioned above, debt can be instrumental in allowing a small and growing business to access the capital they need to grow but it also comes with financial obligations that must be repaid over time. Often, these obligations come with a cost, such as interest.

Why You Need To Manage Debt Effectively

Small businesses taking on debt is neither a good nor a bad thing–it depends on the circumstances, the application, and the management strategies.

Mismanagement of this valuable facility can lead to serious consequences for a small business, including any of the following.

Financial instability

Excessive debt or debt that balloons out of control can cause significant strain on cash flow and therefore inhibit a business’s ability to meet financial obligations, whether that’s payroll or even repayment of the loan itself.

Unmitigated risk

High levels of unmanaged debt increase a business’s financial risk. When interest rates are hiked, market demand dives, unexpected expenses arise or other unpredictable economic conditions fluctuate, this can present difficult-to-surpass challenges for the business in question.

Creditworthiness impacts

While a history of responsible debt management enhances a business’s creditworthiness, the opposite is true. It will become more and more difficult to access lines of credit, financial facilities and business loans if your creditworthiness is negatively impacted by ineffective debt management.

Unsustainable growth

Debt that is not managed carefully can prevent businesses with potential to grow from doing so in a sustainable way. Small businesses are often presented with opportunities for growth within the market, diversification of products and services, or new target markets. With the right level of debt management, a business can take advantage of these opportunities whilst maintaining financial health and stability over the long term.

Tips and Strategies for Managing Debt

1. Create a Detailed Budget

Budgets are not the most exciting things in the world. But they are necessary.

Develop a comprehensive budget for your business that outlines the revenue coming in, the expenses going out and the debt obligations already taken on. This will give you a clear understanding of your financial position and allow you to identify areas where you can potentially save money or even improve revenue.

2. Prioritise Your Repayments

Once again, debt is not a bad thing. But payments not made on time are. Penalties, fees, interest and damaged credit scores are all consequences of unprioritised repayments.

Prioritising your debt repayments will ensure you avoid all of these pitfalls. Pro tip: Consider focusing on your high-interest debts and/or those with restrictive terms to further minimise long-term costs to your business.

3. Review Your Creditor Terms

If your business is struggling to meet debt obligations, you shouldn’t hesitate to reach out to your creditors and negotiate new terms. There are often potential modifications available or even repayment plans. 

Most lenders are willing to work with borrowers, even those facing financial strain, to find an amicable solution that works for both parties.

4. Consolidate Your Debt

This strategy is particularly important for those businesses with high-interest debt. Consolidating your different loans into one single source of debt will allow you to more easily manage payments and keep track of it into the future.

Additionally, consolidated debt could potentially lower your overall interest rate costs and help you save more over the long term.

5. Monitor Cash Flow

Keeping an eye on the cash flowing in and out of your business is very important. Not only does it ensure you have sufficient funds for covering your debt repayments as well as ongoing operating expenses and other financial commitments, but it gives you the ability to anticipate gaps in cash flow.

Being able to forecast waxing and waning access to necessary working capital will give you the ability to anticipate cash shortages and therefore take proactive measures to address these gaps before they become an issue.

6. Build Up an Emergency Reserve

Emergency funds aren’t just for households and individuals. A reserve of capital that can be used to cover unexpected expenses and revenue disruptions will ensure your business doesn’t have to resort to taking on additional debt unnecessarily.

Ideally, you’ll have enough cash set aside to cover the operating expenses (and debt repayment) of the business for three to six months.

7. Work with Professional Advisors 

Whether or not you are confident with managing your business’s debt, consider seeking the guidance and advice of experienced, expert professionals.

Oftentimes, these financial advisors, consultants or accountants will be able to recommend effective debt management strategies that you’d be otherwise unaware of. Their customised recommendations will take into account your unique business goals and circumstances to ensure the best result possible for you and your small business. 

ScotPac: Tailored finance for your business 

Our team of lending specialists here at ScotPac have over 35 years of experience providing financial support to over 8,000 businesses.

If you’re wondering how to effectively manage your business debt to ensure the financial health and long-term success of your business, we’re here to help.

Our award-winning finance solutions and range of business lending options are designed to help your business succeed. To find out more about how we can help you manage your business debt, give us a call on 1300 207 345.