Study: Companies That Use Business Loans From the Start Are More Successful
Mar 14th, 2018 @ 8:53 PM by Amber Nelson
Small businesses that borrow small business loans are much more likely to survive and be successful than those that don’t, according to a new study. Those who start funding their companies immediately with personal loans are much less likely to do well.
The study was produced by finance professors Rebel Cole of Florida Atlantic University and Tatyana Sokolyk of Brock University in Ontario using data from the Kauffman Firm Surveys that followed almost 5,000 companies that started up in 2004. They found that new businesses that financed their beginnings with business loans from banks accrued twice as much revenue after three years as similar sized companies that did not borrow any money. However, those that used business funding with the owner’s personal credit (credit cards, home equity loans etc.) had 57% less revenues than those who had not taken on any debt. That means those that used bank loans created four times as much revenue as those who funded with personal loans.
Cole and Sokolyk also looked at survival rates of these fledgling companies and found that those who borrowed small business loans had a 19% higher rate of lasting more than three years compared to those who did not use any debt financing. Those that used personal debt as funding survived at only a slightly better rate than those without debt.
Of course, debt only helped companies to a certain point. Those business with the highest amount of debt were also the more likely to break up within the first three years.
Why are startups with bank loans more successful? The study authors say that because bank loans are often difficult to obtain, those that put the effort at the outset are willing to make sacrifices and sacrifices. And perhaps the banks help cull out the good business ideas and models from the bad. “If you’re able to get a loan in the name of the business, then the bank is actually taking a look at the business,” Cole said. Those that get funding are then monitored and mentored by the banks, which further puts them ahead of the competition.
Why are those using personal loans not as prosperous? Cole and Sokolyk said that personal debt is worse than no debt at all because it means the lines of credit that should be last resort are being used up first. “If a firm is borrowing in the name of the owner at start-up, then it has used up at least some of that debt capacity, whereas a firm that does not borrow in the name of the owner retains that debt capacity to use in subsequent years if needed,” explained Cole. “The firm is capital-constrained from the beginning, and must spend less on investments that produce future revenues.”
The take-away for businesses is to try for the bank loans right away even if they are not confident they will be good candidates. Going through the process can teach an entrepreneur much about his or her current trajectory.
Amber Nelson is a seasoned mortgage industry writer and a regular contributor to Loan.com and Mortgage101.com.