In Debt and Loving It
Borrowing can be a boon, especially at today's rates
Here's a novel concept: Maybe your company has too little debt, not too much. If that sounds completely daft, it's no wonder--debt is often portrayed as inherently evil. But there's little doubt that it's on the rise. Integra Information Inc. of Flanders, N.J., which tracks small-company balance sheets, crunched numbers from 1.7 million businesses for frontier and found debt averaged 71.6% of net worth in 1998, the third straight annual increase. At small service companies, which represent the largest sector, the trend was even more pronounced (chart).
But you can't look at only the raw numbers. Debt is just a business tool, neither good nor evil. Use too much of it, as everyone knows, and you'll go bust. Use too little, though, and you may still go belly-up if your rivals are using debt to expand their businesses -- and take away yours. You may think you're being prudently conservative by not following the crowd, says Eric G. Flamholtz, a professor at the University of California at Los Angeles' John E. Anderson School of Management, but you could actually be taking more risk by not borrowing enough money to keep up. ''You can wait too long,'' he says. ''A contrarian strategy can kill you.''
Indeed, the decision to load up on loans in recent years looks pretty smart, given how cheap small-business borrowing has been (page 13) during the long economic boom. Whether your debt level is right or wrong also depends on how you compare with your true peers -- rivals in the same business and the same size group. For instance, small companies in finance, insurance, and real estate have an average debt-to-net worth ratio of 188%, up nearly 30 percentage points since 1994. But the average at wholesalers is 35% and has been falling for five years.
Another big factor, of course, is your individual situation. If your cash flow is dropping, you'd do well to keep your debt levels below the norm. What is the norm? You can buy a peer-group comparison for $60 to $300 from vendors such as Integra (800 780-2660 or Dun & Bradstreet (800 552-3867.) But if you're aggressive and your rivals look weak, maybe it's time to borrow and build -- instead of striving to be average.
Which lenders have the best rates and terms for small companies? Click Online Extras at smallbiz.businessweek.com.
By Rick Green
This article was originally published in the July 19, 1999 print edition of Business Week's Frontier. To subscribe, please see our subscription policy.
CHART: Other People's Money