If you’re not familiar with the term leverage in a business sense, it refers to the way a business obtains assets to use for startup purposes or for expansion. A slight variation on the term, leveraged, means that a business has financed some of its purchases or activities by borrowing money. Another way a business can leverage is by raising money via its investors. This is known as business equity.
An Example of This Business Concept
A mom-and-pop restaurant has become so popular in the area that its owners want to open a second location. This would require them to purchase equipment for the kitchen, have a new restaurant built or lease an existing structure, hire employees, and much more. Since the owners are unlikely to have the money on hand to pay for all these purchases upfront, they will need to apply for a business loan, also called leverage. If approved for the loan, it would allow the business to proceed with expansion in a way it would not be able to do with its own resources alone.
Leverage Can Be a Great Option When Not Used Too Often
When considering applying for a business loan, the owner of a company must ensure that he or she can work it into the budget to pay it all back plus interest in equal installments. Taking on too much debt will hurt the business rather than help it since the owners will become bogged down in making payments to the point of being unable to pursue expansion. Lenders carefully consider how much debt is reasonable for a business to take on before approving a loan.
Investors Use Leverage to Consider a Company’s Financial Health
The debt to income ratio of a business indicates how much of its assets it owns outright and how much it finances. Potential investors study this figure carefully just as personal creditors do. That’s why it’s so important to borrow money only when truly needed for business purposes.
Grecco Capital is available to answer a question on this and other financial topics at your convenience.