It is often said that small business people have a difficult time borrowing money. This is not necessarily true. Banks make money by lending money. However, the inexperience of many small business owners in financial matters often prompts banks to deny loan requests. Requesting a loan when you are not properly prepared sends a signal to your lender. That message is: High Risk! To be successful in getting a loan, you must be prepared and organized. You must know exactly how much money you need, why you need it, and how you will pay it back. You must be able to convince your lender that you are a good credit risk.
Types of Business Loans
Terms of loans may vary from lender to lender, but there are two basic types of loans: short-term and long-term. Generally, a short-term loan has a maturity of up to one year. These include working capital loans, accounts receivable loans and lines of credit.
Long-term loans have maturities greater than one year but usually less than seven years. Real estate and equipment loans may have maturities of up to 25 years. Long-term loans are used for major business expenses such as purchasing real estate and facilities, construction, durable equipment, furniture and fixtures, vehicles, etc.
How to Write a Loan Proposal
Approval of your loan request depends on how well you present yourself, your business, and your financial needs to a lender. Remember, lenders want to make loans, but they must make loans they know will be repaid. The best way to improve your chances of obtaining a loan is to prepare a written proposal.
A well written loan proposal contains the following:
- General Information
- Business Description
- Management Profile
- Market Information
- Financial Information
General Information includes:-
- Business name, names of principals, Social Security number for each principal, and the
- Purpose of the loan (exactly what the loan will be used for and why it is needed)
- Amount required (the exact amount that you need to achieve your purpose)
Business Description should include:-
- History and nature of the business (details of what kind of business it is, its age, number of employees, and current business assets)
- Ownership structure (details on your company’s legal structure)
Develop a short statement on each principal in your business providing:
Market Information should include:-
- Clearly define your company’s products as well as your markets.
- Identify your competition and explain how your business competes in the marketplace.
- Profile your customers and explain how your business can satisfy their needs.
Financial Information includes:-
- Financial statements, balance sheets, and income statements for the past three years. If you are starting out, provide a projected balance sheet and income statement.
- Personal financial statements on yourself and other principal owners of the business.
- Collateral that you would be willing to pledge as security for the loan
How Your Loan Request Will Be Reviewed
When reviewing a loan request, the lender is primarily concerned about repayment. To help determine this ability, many loan officers will order a copy of your business credit report from different service providing agencies such as water bills, electricity bills and many others. Therefore, you should work with these agencies to help them present an accurate picture of your business.
What the Lending Officer looks for:
Using the credit report and the information you have provided, the lending officer will consider the following issues:
- Have you invested savings or personal equity in your business totaling at least 25% to 50% of the loan you are requesting? (Remember: a lender or investor will not finance 100% of your business.)
- Do you have a sound record of creditworthiness as indicated by your credit report, work history, and letters of recommendation? This is very, very important.
- Do you have significant experience and training to operate a successful business?
- Have you prepared a loan proposal and business plan that demonstrates your understanding of and commitment to the success of the business?
- Does the business have sufficient cash flow to make the monthly payments?
The Financial Six C’s
Loan Officers also evaluate you on the following:
- CHARACTER: The degree to which a borrower feels a moral obligation to pay his/her debts, measured by the credit and payment history.
- CAPACITY TO PAY: A subjective determination made by a lender based upon an analysis of the borrower’s financial statements and other information.
- CAPITAL: The amount of capital in a business is equal to the total of capital from debt and equity. Lenders prefer low debt-to-asset and debt-to-worth rations and high current ratios. These indicate financial stability.
- COLLATERAL: An asset owned by the borrower, but promised to a lender against non-payment of the loan. The amount of collateral varies from lender to lender. The closer the collateral value is to the loan amount, the more comfortable the lender will be that the loan will be repaid.
- CONDITIONS: General economic, geographic, and industry
- CONFIDENCE: A successful borrower instills confidence in the lender by addressing all the lender’s concerns on the other Financial C’s. Their loan application sends the message that the company is professional, with an honest reputation, a good credit history, reasonable financial statements, good capitalization, and adequate collateral