I recently wrote a magazine article in which I discussed various strategies to finance a startup. However, in the version that I submitted, I inadvertently left out the part about looking to the U.S. Small Business Administration (SBA) as a funding source. In this article, I will exclusively focus on the various startup-funding options available through the SBA.
First, there is a lot of misinformation being spread about how the SBA helps entrepreneurs finance their startups—particularly in regards to grants to start or expand a business. The fact is that despite what unscrupulous marketers will tell you, the SBA does not offer grants to start or expand a business, even if you are a woman, veteran or member of any disadvantaged group. And if one day the SBA does offer any type of government grants for startups, then the official SBA website (www.sba.gov) is the first place you should look for information.
Although it does not offer startup grants, the SBA is one of the most valuable startup finance resources you will find. In terms of small business financing the SBA can facilitate loans for entrepreneurs with a third party lender, guarantee a bond, or help find venture capital. The SBA’s programs are designed to help businesses meet their financing needs, including debt financing, surety bonds, and equity financing. Below is an overview of each:
- Debt financing (Guaranteed Loan Program): Contrary to popular belief, the SBA does not offer direct loans to entrepreneurs. Instead, what the SBA does is set the guidelines for loans, which are then made by its lending partners. In fact, the SBA is the largest backer of commercial loans for small businesses in the U.S., offering a variety of loan guaranty programs to accommodate most small business financial needs. The SBA’s financing partners include lenders (e.g., banks), community development organizations, and microlending institutions. When a U.S. Small Business Administration partner loans money to an entrepreneur to start or expand a business, the SBA guarantees that these loans will be repaid, therefore reducing the risk to the lending partners. Basically, when a business applies for an SBA loan, it is actually applying for a commercial loan that is structured according to SBA requirements. The SBA of course guarantees that the loan will be repaid to the lender.
- Surety bonds: A surety bond is a specialized financing instrument that contractors use. The surety bond ensures that the contract will be completed in the event of contractor default. A surety bond is a three-party instrument between a surety (the entity that agrees to be responsible for the debt or obligation), a contractor and a project owner. The agreement binds the contractor to comply with the terms and conditions of a contract. Should the contractor be unable to successfully complete the terms of the contract, the surety assumes the contractor’s responsibilities and ensures that the project is completed. Through the Surety Bond Program, the SBA guarantees that it will assume a percentage of loss in the event the contractor should breach the terms of the contract. This guarantee gives sureties an incentive to provide bonding for eligible contractors who might be otherwise unable to obtain a surety bond through ordinary channels. This strengthens small contractors and thereby gives them greater access to contracting opportunities for small businesses. The SBA guarantees bonds for contracts up to $5 million, covering bid, performance and payment bonds, and in some cases up to $10 million for certain contracts.
- Equity financing (Venture Capital Program): The SBA’s Small Business Investment Company (SBIC) Program is a public-private investment partnership created to help fill the gap between the availability of growth capital and the needs of small businesses. The SBIC program has been around since 1958. Much like it does not make direct loans, the SBA does not invest directly in small businesses. Instead, it relies on the expertise of qualified private investment funds. SBICs are privately organized and managed venture capital firms that the SBA licenses to make equity capital or long-term loans to small businesses. In exchange for agreeing to finance only small (U.S.-based) businesses that comply with SBA regulations, SBICs are given access to low-cost, government-guaranteed debt.
The SBA offers a wealth of other resources to start or grow a business venture. Visit the SBA website at www.SBA.gov for more information.