If your small business generates excess cash-flow (aka profit) every year, you should know that a real estate and mortgage slump can be a great opportunity.

The basic idea is that if you generate investable cash, every time an asset (including real estate) gets cheaper, you are better off.

Warren Buffet has a much more articulate presentation than me on this idea, as he convincingly argues that most investors, if they ever intend to invest their money again, should hope for a drop in the stock market rather than a boom. The same asset, at a cheaper price, is a better deal.

The same idea applies to real estate investing: the same property, at a cheaper price, is a better deal. As much as the popular press trains us to applaud booming prices, we should welcome drops in prices even more.

I would further argue that there is hardly any small business which would not benefit by owning more real estate. Viewed as a business asset, owning your office building (or a surrounding set of office buildings, or the land adjoining your office) puts you in a powerful position. Small business owners often have a hard time convincing banks or prospective investors of the ongoing enterprise value of their business, but can almost always convince these same outsiders of real estate value.

What if you are looking to purchase an office property adjoining your business but you worry that the mortgage crisis will make funding difficult? First off, I doubt your local bank’s standards are affected by the sub-prime mortgage slump. If anything, they should be even more eager to lend to safe, profitable customers to make up for a slowdown in their mortgage-lending business.

However, the latest crisis does give you an opportunity to purchase your property without using the bank, through seller-financing. I mentioned this in a previous BizBox post, and in oother places and it involves writing a mortgage with the seller of the property. Citing the real estate and mortgage slump, you may be able to negotiate more attractive terms with the property seller than you could get from a local bank.

More attractive terms may include a more favorable down payment, interest rate, or pay structure than would otherwise be available. Your creativity in this situation can save you plenty of money or make a purchase possible that would otherwise be out of reach.

With an opportunistic approach, small businesses should be poised to not just survive, but flourish during the real estate and mortgage crisis of 2007.

The basic problem of getting flexible, cheap, dependable financing is one of the never-ending issues for entrepreneurs.

In the next few posts I’ll review my experience with some of the fast, cheap, on-line methods of finding small business funding. I’ve test-driven these financing solutions for my own company.

First, the bad news: There is no Goldilocks solution, because inevitably, ‘this one’s too small, this one’s too complicated, this one’s too specialized,’- you get the idea.

Next: the good news: I’ve already tried them out, so you can save time by just reading along.

Finally: If you want to research other online financial sources for your small business, I found a good clearing house of topics here.

Part I: A review of ActiveCapital.org

The first of the three on-line sources of capital I tried was Activecapital.org, which had its origin in an SBA-program to encourage angel investors in start-up businesses. ActiveCapital serves as an online matchmaker between fresh entrepreneurs and pre-qualified angel investors.

Originally titled ACE-Net, the program allows you, the entrepreneur, to apply for angel money, between $250 thousand and $5 million, by pitching your business online to qualified investors, who themselves must have met net worth and appropriateness requirements.

In my first year as an entrepreneur, I filled out the online application, which costs about $200 for a 6-month online listing. Part of the service of the site is that it explains the regulatory environment for selling equity in your business to strangers, and some of the legal hoops you need to jump through to be compliant with state and federal securities laws.

Overall the program does an admirable job of providing a relatively low-cost and legally-appropriate way to pitch your business to perfect strangers. This is especially so because ordinarily the cost of selling equity in your company to strangers is quite high, and the legal requirements are quite onerous.

As a practical fund-raising tool, however, let me save you some time here: DON’T BE SURPRISED IF THE PHONE DOESN’T RING.

The program is a neat idea in theory, which doesn’t work in practice. I don’t mean that comment as the sour-grapes of a guy who couldn’t get angel funding this way. What I really mean is that angel investors don’t invest this way. They don’t think this way.

I’ve never met an investor who would troll online for start-up companies to throw a million dollars to. On-line dating may work for relationships, but it’s really no way to find an investing soul-mate for something as personal, something as risky, as angel investing.

I basically threw my $200 into the service 4 years ago knowing in my heart that it probably wouldn’t work, but curious to see what would happen anyway. Well, the silence was deafening.

Strangely enough, though, about two weeks ago I got an email out of the blue from the ActiveCapital site, noting that a qualified investor had downloaded my company profile.

I’m really not interested in angel investors right now, and I can’t even remember what my online profile said, but I’ll admit to a momentary quickening pulse when I got the email. Will the angel investor like me?

NEXT UP: A review of CircleLending.com in Part II, and Prosper.com in Part III

CircleLending satisfies the entrepreneurial dilemma about borrowing money by assuming, at the outset, that you’re going to have to get some funding from friends and family.

Which, I have to admit, is a pretty good assumption when it comes to small business finance.

[Incidentally, recently CircleLending became Virgin Money USA. Unfortunately, I feel dirty just writing Virgin Money, for obvious reasons. So let me clarify at the outset that the previously-perfectly-nicely-named Circlelending.com got purchased by Sir Richard Branson’s Virgin Group. I’m sorry that their naming consultants could not think of a better name. I’m going to refer to it through the rest of this article as CircleLending.]

For a starting price of $195, CircleLending provides independent third-party documentation of your loan from a friend. For a few hundred more dollars, they will also provide third-party tracking of loan payments for the life of the loan.

They serve as payment intermediary between you and your friend, keeping official track of what has been paid and what is still owed.

I whole heartedly endorse the practice of documenting friends-and-family loans, or any similar transaction you might be tempted to complete with just a handshake. You just never know when a printed, signed document spelling out all the relevant terms of the transaction can save you time, money, and relationship stress.

For that reason alone CircleLending provides a valuable service.

BUT, here’s the problem. CircleLending is charging relatively high rates for something that can be done much more cheaply. If all you need is a good document template for your loan, do yourself a favor and keep shopping online.

$195 for the price of providing official documents seems kind of steep, given that a cheaper solution to the main service of CircleLending can be found online at USLegalForms.com, by clicking on your state, and “Promissory Note.” A good, state-specific document will set you back $12 to $15.

In sum, document your friends and family loans, but don’t overpay.

NEXT: Part III – A review of Prosper.com as a small-business financing tool

The problem: You need a small amount of capital such as $25,000 at a reasonably low interest rate, to be paid back over a period of time such as three years.

A complication: You do not feel right about asking friends and family for the money, and your bank (like all banks!) only wants to lend money with real estate as collateral. See for example, my earlier post.

One solution is the online person-to-person lending site called Prosper.

A common solution to the problem above is to finance small business start-up costs through credit cards, which locks your business in to expensive money if you do not pay off the balance every month.

If you have a strong credit history the idea of paying above, say, 12% on a business loan should rub you the wrong way.

And yet, most banks in my experience will not make $25,000 loans unless your business owns real estate or you are willing and able to pledge your own home as security for the loan. How many small businesses own real estate? Not many. The inflexibility of most banks makes small start-up loans to $25,000 a real headache. Enter Prosper.

The site launched in February 2006 and allows borrowers to access an online marketplace of individual and group lenders.

You choose what information to provide, including pictures (highly recommended), and your proposed use for the loan proceeds, and the maximum interest you would be willing to pay. Lenders have 9 days to bid in increments of $50 or more to fill your request, by placing orders at the maximum interest rate or less. Frequently more lenders line up to provide funding to you than is requested, and competition drives the loan interest rate down. A typical funded loan pools together 50 to 75 lenders making tiny loans of $50 to $300 each.

All loans have a fixed-rate, monthly-pay, 3-year amortizing schedule. Your loan is funded to a Prosper account from which you can transfer money within two days. Your monthly payments have to be made to your Prosper account. Prosper then distributes your monthly payment to your 75 different lenders for you.

My Experience

As a test, on my first week after joining Prosper, I entered an order to borrow $10,000 at 7.75%. I included a cute, irreverent, and irrelevant picture of my 2 year old daughter as an identifier on the loan, and I pledged to be a good borrower and to pay back the loan early.
After 4 days I had 86 bidders on my loan, and competition to fund me had driven the interest rate down to 7.70%. (I’m fairly certain my daughter’s photo is responsible for the cheaper rate on my loan.)

Prosper subsequently contacted me to verify my address, identification, and information I provided about my annual income. My strong impression is that the Prosper folks were heavily scripted in their phone requests and probably phoned from a call center in India.
So far, Prosper appeared to me to be the ideal small business tool: It was fast, and offered an attractive borrowing rate of interest. In addition, the loans are prepayable without penalty, and funding can occur within 2 weeks of an application. I even liked that they engaged in appropriate due diligence about me as a borrower.

Unfortunately, a few days after I provided income-verification information, by faxing my business and personal tax returns, I got a computer-generated rejection email from Prosper.
My assumption, although nobody at Prosper verified this for me, is that my LLC’s tax return and Form K1, combined with personal tax information, proved too complicated for the Prosper staff to sift through.

I’m guessing that the staff could not satisfy their verification steps in the absence of a traditional empoyee’s Form W-2 showing wages.

If my assumption is correct, then Prosper is less than ideal for the small business entrepreneur, a person who may not generate a traditional W-2 for him or herself.

In addition, I don’t recommend Prosper.com for any small business owner who is already heavily-indebted or has a troubled credit history. The site will display your credit grade pulled from the credit bureau Experian, and it specifies the number of delinquencies and defaults you have had in the past. The person-to-person Prosper market is efficient at setting high interest rates for risky borrowers, and to pile on yet another high-interest loan is the equivalent of trying to put out a fire by pouring on the gasoline.

I’m left with a few additional conclusions about Prosper. First, small business borrowers may benefit from the Prosper site, but they probably need to be prepared to report employee income in a format easily understood by Prosper’s staff. Finally, the maximum size of the loans, $25,000, makes it best suited for a small part-time or home-based business.

In the final analysis, I’ve yet to find a great source of online capital for small businesses. If your business owns real estate, you’re all set with a bank. If your business is large and has significant cash flow, you may qualify for an SBA loan. But if you’re small and have no real estate, there isn’t an easy answer available.

Make sure to gratefully thank your friends and family who believe in you!