The Matching Principle

There’s a simple financial principle regarding the management of debt, that many small businesses don’t follow. It’s called the matching principle. It basically means that you should use long term money for long term assets and short term money for short term assets. A good example is your line of credit. Because this gets renewed every year or two, it’s considered short term debt. Using it to cover payroll until an expected customer payment arrives is appropriate. The point is, it gets paid back within a couple of weeks or months. This is not something that should carry a balance year after year.

Once I owned a retail business, and within the second year of business I used the heavy cash inflow from spring sales to pay for a new asphalt parking lot. This was a bad idea. Remember long term assets (like a new parking lot) should be funded with long term dollars, like a 3-5 year loan.