Many businesses use bank loans to finance and expand their operations. While the types of loans and terms vary, bank loans overall have similar advantages and disadvantages for businesses.
Business loans are a great way for companies to expand operations and increase production without using their own capital. Loans provide companies with immediate resources to expand their business and potentially earn more profits.
As businesses use bank loans, they increase their stability and raise the credit score used by banks that value the company's risk. Becoming a low-risk investment increases the chances of a company securing bank financing for future needs.
A danger of using too much bank financing is over-leveraging company assets. Companies with high debt ratios are at risk for loan default because their assets are unable to cover the bank loans if profits begin to fall.
Companies that use bank financing as a primary growth tool may commit too much cash flow to debt repayment. This negative cash flow can lead to bankruptcy if the company is unable to cover for normal operating expenses and the debt repayment.
Companies should create a mixed financing policy of debt and equity financing for their business structure. This helps to keep low debt levels in the business and allow for cash to be reinvested into business operations rather than paying down debt.