Money is the lifeblood of business, and ensuring optimal cashflow keeps its heart beating and makes for smoother operations and its continuation.
Sometimes, however, a business accrues debt during its operations. This could be due to a loan, start-up costs, inventory and stocking costs, or even invoices not being paid for services rendered.
There are two kinds of debt that businesses can go into – good debt and bad debt. You might be asking, how can a debt be good? Determining the type of debt is highly dependent on how the debt has been used for your business.
Good debt has the potential to support your business’s growth and its ability to create and generate further wealth. This could be when your business purchases an asset through borrowed money that generates income for the business, with the return on investment for the asset exceeding its after-tax interest cost. If you are a business in a seasonal industry, you could use a business loan or line of credit to balance out uneven cash flow in the slower seasons.
As a general rule, good debt generates more value or money than the loan itself costs. It allows you to expand by financing things for the business, such as equipment, premises, skilled employees and marketing.
Bad debt may come in two forms. The first is a loss that your business has incurred because credit has been extended to customers that cannot be repaid or recovered (which should be expensed on your income account). It could also be a loan that your business takes out to finance things, such as growth or day-to-day operations.
Bad debt essentially affects the bottom line, disrupts the day-to-day activities and operations by affecting cash flow, constrain growth and even threaten the survival of your business.
However, even good debt can become bad debt if it is not carefully managed and controlled. Always have a plan for paying off debt in place, and try to pay off the more expensive forms of good debt before the cheaper good debt.
Suppose it feels like you are waiting with bated breath for the creditors to knock on your business’s door due to unmanageable debt. In that case, you may want to consider the following:
If you require assistance with planning your business’s debt management solution, you should seek professional advice. Consult with us on how your debt can become manageable today.