If you haven’t noticed, there’s a credit crunch going on right now. Most banks have tightened their lending standards considerably, making it more difficult than ever for even well-established and creditworthy businesses to get financing.
But there are steps you can take to increase your chances of landing a business loan — even in the midst of the worst credit crunch in a generation. It all boils down to what banks refer to as the “five Cs of credit.”
After the lending excesses of the past few years, most banks are now taking a back-to-basics approach and returning to the traditional emphasis on the keystones of commercial lending: a focus on the borrower’s character, capacity, capital, and collateral, along with current market conditions. To increase your chances of financing success, take a hard look at how your business measures up in each area.
This refers specifically to your company’s management. What is your reputation in your community and industry in terms of how you treat customers and employees? Do you take responsibility for your actions and the outcomes, both good and bad? Do you fulfill your obligations in a timely manner?
In other words, how much debt can your business comfortably assume? Your banker will calculate a variety of different financial ratios and compare them to industry benchmarks to gauge your debt-service capacity.
How well capitalized is your business? Most banks will want to see how invested you are personally in your business before deciding if they’ll lend you money and, if so, how much. In other words, how much skin do you have in the game?
Banks will require a secondary source of repayment, known as collateral, from most business borrowers. Collateral usually takes the form of hard assets that the bank can quickly convert to cash, if necessary, like real estate and equipment. Owners of service businesses without hard assets often have to pledge personal assets, like their homes.
This refers to conditions in the general economy as well as those in your particular industry. Obviously, general economic conditions today are less than ideal for lending, but some industries are better off than most, while others are worse.
In addition to measuring your business against the five Cs of credit, one of the most important things you can do to land a business loan is to be proactive. Many business owners only think about talking to their banker when they need to borrow money. Actually that may be the worst time to visit your banker.
Instead begin establishing a relationship with your banker before you need a loan. They probably have experience working with many businesses similar to yours and can therefore provide assistance and advice beyond simply loaning money.
Be prepared when you sit down with your banker. This means knowing exactly why you need to borrow money, how much you need to borrow, when and how you intend to pay it back, and any collateral you have to support the loan. Also bring detailed financial information with you, including business and personal tax returns, financial statements (i.e. a balance sheet, an income statement, and a cash-flow statement) and your written business plan.
Make sure all financial records and information are up-to-date, including your collections efforts and accounts-receivable agings. Also demonstrate to your banker that your accounting and bookkeeping systems are adequate, your federal and state tax obligations are current, and your sales and cash-flow forecasts are based on reasonable and realistic assumptions.
Don Sadler is a freelance writer specializing in business and finance. Reach him at firstname.lastname@example.org.