Debt Financing Options for Singapore Companies

Debt financing is one of the options for first-time entrepreneurs who are looking for small business loans or start-up capital in order to jump-start their business. Unlike equity financing where investors take up equity stakes in the company, debt financing helps entrepreneurs retail full control over their business including the profits generated. In debt financing, you borrow the money and agree to pay it back in a particular time frame at a set interest rate. You owe the money whether your venture succeeds or not. Compared to equity financing, debt financing is far less expensive if your company is successful, but far more expensive if it isn’t.

The primary source of debt financing for most start-up entrepreneurs is the close-knit circle of their friends and family. However, capital loaned from personal sources many not always suffice for a high-growth or capital intensive business. This is where banks and finance companies can help. In recent times, Singapore banks have witnessed a strong interest in their start-up loan offerings.

This guide provides an overview of the various private debt financing options for start-ups in Singapore.

Sources of Private-Debt Finance: Commercial loans

Types of Loans

Most banks and finance companies in Singapore offer small business loans to start-up enterprises. Small business finance is offered by way of business revolving lines of credit, business overdrafts, factoring loans, etc. The most common types of small business loans that most banks and financial institutions offer in Singapore include the following:

  • Working Capital Loans: A working capital loan is short-term loan that is typically used to finance the everyday business operations of a company. Working capital loans usually help businesses to stay afloat until they begin generating revenue. Working capital loans can either be secured (i.e loans on the basis of collateral) or unsecured (no placement of collateral). Unsecured loans charge higher rates of interest as compared to secured loans and are often granted to only low-risk borrowers. Start-ups fall under the high-risk category and are therefore more likely to obtain secured working capital loans. Working capital loans serve to fund only short-term financing needs and are not suitable for long-term projects. Working capital loans can take the form of:
    • Factoring loans: Factoring loans refers to money this is lent on the basis of trade debts. In other words it is the financing of account receivables. In effect, you are selling the account receivables to the factoring agent i.e. the bank. The bank will loan you an advance on the basis of the account receivables and your customer will have to directly make the settlement with the bank. There is no other collateral involved.Typically, banks offer loans of up-to 90% of the accounts receivables or billed invoices. However, it must be noted that the bank will charge a fee in the range of 1-15% of the gross invoice value or an annual interest rate of 5-8%. The advantage of factoring loans is that you can get immediate access to cash as soon as you issue an invoice. Moreover, you do not have to follow up with customers for payments. The downside is that you do not get 100% of the invoice value from the bank and some of your customers may be averse to dealing with the banks directly.
    • Short-term loans: Short-term loans are those that have a short maturity period of one year or less. Some banks may require you to put up collateral against the loan. Short-term loans are usually used for buying inventory, to even out cash-flow, to pay bills or payroll, etc. Start-ups can avail of short-term loans but will have to provide projected financial statements and demonstrate their ability to pay up the loans.
    • Overdraft: Overdraft is an instant extension of credit from a bank. By signing up for an overdraft facility, businesses can overdraw their current account up to a maximum amount agreed with the bank. Interest is paid only on what is overdrawn and is usually charged at 1-2% above the bank’s prime rate. The amount of credit allowed will depend upon the limit that has been set with the bank. The advantage of the overdraft facility is that it is form of short-term financing that allows for instant access to cash especially for activities such as stock turnover or payment to creditors. Overdraft facility can either be secured (on the basis of collateral) or unsecured (no collateral).
  • Hire Purchase Loans: Hire-purchase is a method of purchasing goods by making installment payments over a fixed period of time. Hire purchase loans is an arrangement where the bank finances the purchase of equipment, machinery, or commercial vehicles for business operations. Hire purchase loans are usually used to purchase assets that are non-cash convertible. Under hire purchase loans, the bank will retain legal title to the financed asset, until the last installment is fully paid-up. In other words, the buyer (hirer)  purchases the goods (assets) by paying a deposit and borrows a loan to make monthly installment payments to the seller over a predetermined fixed financing period. The interest rate of such loans is normally offered on a flat-rate basis (i.e a fixed rate on the full amount financed for the entire hire purchase term). The financing period usually ranges between 4-8 years depending upon whether the machinery/equipment purchased is new or used. Usually, the loan amount is up-to 80-90% of the purchase price or market value, whichever is lower.

Securing a Start-up Loan: Tips and Guidance

Securing a business loan from banks in Singapore is dependent upon several factors including:

  • A sound business plan: A financially sound business plan that demonstrates successful economic outcomes is likely to work in your favor.
  • Sales Revenue: Higher the turnover, greater the chances of securing a larger loan quantum.
  • Projected net profit: Based on your expected net profits, banks will decide if they can lend you short-term working capital loans.
  • Paid-up capital: A higher paid-up capital increases the chances of obtaining a bank loan as it demonstrates the shareholders’ and directors’ commitment to the business.
  • Inventory: An inventory that reflects a smaller number of finished goods is likely to win the favor of banks as it doesn’t indicate locked-up capital.
  • Start-up owner’s character and credibility: Your integrity in business dealings, credit history, and reputation go a long way in securing finance from banks.
  • Collateral: Availability of collateral and your repayment capability will affect the bank’s decision  in granting you a loan.
  • Economic conditions: The outlook for the business-sector which your start-up belongs to, general economic outlook, entry barriers, currency risks, susceptibility of the business to changes in the external environment play a role in determining the chances of your loan application.
  • Debt-equity ratio: Most banks will assess the debt-to-equity ratio of start-ups. In other words, the amount of money that you are borrowing should be realistic in comparison to the amount of money that you have invested into the business. The loan requested should be a fraction of the capital that has already been invested.
  • Loan application: The loan application is a very important document in the process of acquiring a business loan. The loan application must include details of the loan that you are seeking including: the type of loan you are applying for, the loan quantum, the purpose of the loan, how you plan to repay the loan, and the importance of the loan to your start-up. It is also necessary to include business details such as: Description of proposed business activities, details about the management team, market information, financial projections,and  information about potential collaterals.

Sources of Private-Debt Finance: Friendship Loans

  •  The most common and primary source of private debt financing for start-up entrepreneurs are loans borrowed from friends and family.
  • The advantage of friendship loans is that:
  • There is no collateral required although this may vary depending upon the nature of the relationships involvedThe loan terms are flexible;
  • The loan period, repayment schedule, and other factors are open to negotiation and are mutually agreed upon by both parties.
  • Although the loan arrangement is based on trust and verbal assurances, it is advisable to draw up a loan agreement that clearly spells out all terms and conditions to help prevent future misunderstanding and also provide a basis for a business relationship.
  • It is important to keep lenders informed about the progress of the business. Providing a business plan at the outset of the loan and sending regular progress updates will be much appreciated by the lenders.
  • A number of successful Singapore start-ups have been initially funded by capital borrowed from friends and family.

On a final note

If you can demonstrate that your company has the ability to repay the business capital loans in a timely manner, most banks and finance companies will offer you a business loan with very good terms. You are strongly advised to approach banks and finance companies well ahead in time as they normally take a few weeks to review your loan application. You must remember that most banks are wary of start-ups as they are a high-risk profile client given their limited cash-flow and small capital. You are therefore advised to prudently shop around for banks and carefully prepare your loan application to minimize chances of rejection.

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