Startup Debt: Why Young Companies Don’t Apply for Loans [infographic]

Debt for startups

Debt is the most common form of financing for all companies, including young companies. Yet startup debt is not sought by about half of all young companies. Why is that?

The answer emerges from a major study just released by the Federal Reserve Bank of New York. They asked both younger and older companies a bunch of questions about loans. The Small Business Credit Survey was conducted in 2016, but the analysis is just being released for what they call startup employer based businesses.

They received survey responses from more than 2,000 companies that were five years old or younger when they were surveyed, and had at least one part-time or full time employee. That’s a very big sample size! While they note that their 400 partner organizations helping with the survey may have introduced some bias, this is about as close as you can get to really reliable survey results.

You may notice that the Federal Reserve’s definition of startup is different from the Silicon Valley definition. The Fed definition is just based on age, rather than aspiration.

We will be sharing more relevant results from this important study in the coming weeks. Of all of the questions and answers, the question in the above chart, taken straight out of the report, definitely jumped out for us as one of the more interesting for young businesses to see.

Startup Debt Survey Results

First, it’s not surprising that about half of all young companies didn’t even try to access debt. Roughly one-third of these “non-applicants” for debt said they didn’t need debt, they had enough money from other sources. Companies with adequate customer cash flow, companies with equity financing, and those with substantial self-funding don’t necessarily need debt.

The next two categories are highly relevant for young companies. A significant share of startups fear going into debt for their business; they are “debt averse.”

An equal number of companies are “discouraged,” which means they don’t think they will be approved so they don’t even try.

After analyzing the companies in these two categories, the report noted that the “debt averse” companies were generally more able to manage debt than the “discouraged,” who had worse credit scores and higher incidence of credit problems in the past.

In other words, if you are so afraid that taking on startup debt will kill your business, it’s likely that in fact you could take on some debt to help grow. All told, that’s about 13% of all young businesses.

Finally it’s worthwhile noting that the issue of credit costs being too high, or the process of finding debt being too difficult, were concerns for only a small minority of companies. That doesn’t mean companies were happy with the costs, or satisfied with the process. We’ll show that data in another post. Rather, those problems are not dissuading companies from applying for debt financing.

Do any of these results surprise you, or make you think differently about seeking debt?

 

Don Gooding

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