From the September 2002 issue of Startups

You may have used personal savings or money borrowed from friends and family to get started, but where do you go when it's time to grow your business? If you've been in business for less than three years or have nothing to offer as collateral, you might find traditional lending institutions unwilling to finance your business. There are options, though--if you know where to look.

Going back to those same friends and family--but making it a formal loan with a set repayment plan and interest--might be a viable option, if you haven't already gone this route. For instance, an institution like CircleLending--which administers loans between individuals by handling and storing all the documentation, creating a repayment schedule, taking care of payments through debits and direct deposits, and even handling collections if the loans go into default--can make things easier for both you and your loved ones.

"There's this huge volume of loans between individuals in this country, and there really is no third party to reduce the high rates of default which typically occur in these loans," says Asheesh Advani, president and CEO of CircleLending, based in Cambridge, Massachusetts. According to Advani, $65 billion a year is transacted between family and friends in the form of loans. In addition, 14 percent of the total amount of money raised by businesses comes from friends and family.

While borrowing from friends and family may be an alternative, however, what if your need exceeds what you can borrow from them? When Paul Entin founded his previous business, Fitnesslink.com, the company grew rapidly, and he knew he needed to seek outside funding to bolster the technology he was using to run the site. Unwilling to give up control of his company to a venture capitalist--he'd been approached several times--he instead got a microloan from an SBA-backed lender. The infusion of funds allowed Entin to beef up the technology in his business, which he subsequently sold.

So when it came time to find funding for his current business--epr, a Washington, New Jersey, marketing and advertising firm specializing in industrial clients--he knew exactly where to look. "We had talked to our bank and investigated other ways, like home equity loans, but this seemed like the most effective way to go. It was a fair interest rate, plus they were able to give us the loan without having a [drawn-out] process upfront," says Entin, who invested the $27,000 from his second loan into office equipment and materials.

And although Entin doesn't plan on adding employees--he outsources a lot of graphic design to a network of freelance professionals--or moving out of his home office anytime soon, any future expansions in the business will likely be funded by microloans.

If you lack funds on a short-term basis, think about creative forms of financing, such as pre-selling. "We teach [our students] to use a customer as the basis of funding," notes Professor Ken Proudfoot, director of the Larry Friedman International Center for Entrepreneurship at Johnson & Wales University in Providence, Rhode Island. "And the way that works is by pre-selling the product or service--taking a deposit for the delivery of the product or service in advance of actually delivering it," says Proudfoot. You can then use the deposit to purchase the materials you may need to deliver the product at a later date.

Another method of obtaining financing for supplies or materials is to approach vendors of those products about opening a line of credit with them. With flexible terms of payment, you can stock your inventory or buy raw materials for your product without having to put the cash upfront.

Now before you go out and borrow from anyone, make sure you have a bona fide need. Money won't solve problems in your business, warns Proudfoot, and you shouldn't expand your capacity without first ensuring you have the customer base to justify the expansion.