A Guide to Applying for a Loan
Every business at some point will require outside financing. This generally means obtaining some form of bank loan. For many, this turns out to be a very aggravating and frustrating process. You may be financing a new business or simply be in need of seasonal financing, but proper planning will substantially enhance your chances of obtaining a loan. An additional benefit may be that you will learn more about your business.
Various methods of outside financing include venture capital, an outside investor or bank financing (the most common method). Many banks offer both conventional and SBA loans. Talk with your banker to see which type of loan makes more sense for your particular situation.
Let’s take a look at the various aspects of applying for a loan and how they may affect you.
The Loan Process
Have an understanding of what your banker is interested in and anticipate questions that might arise during the loan process. Most business owners think that having substantial capital is the only criteria that interest banks; however, banks are in the banking business and have no interest in running your business should you default on the loan. This means that banks are more interested in how you will repay the loan as opposed to the capital you may have.
Why Do You Need The Loan?
Although it may seem obvious to you why the loan is needed, the first step is to determine why you need the loan. Your business may be a start-up that will require purchasing equipment, inventory or working capital or maybe even finance research development and product research. If you are an established business, maybe you are experiencing cash flow problems because you are under-capitalized or you may be experiencing a seasonally slow period. No matter what the situation, there are usually four common reasons for requiring a loan: working capital, seasonal peaks, equipment acquisition and acquiring or starting a business. Even though the basics for needing the loan are the same, your loan package should be customized to reflect the reasons for obtaining financing.
Cut Expenses, Reduce Debt
You should have your business in the best possible financial order. Pay close attention to expenditures. Look at all your expenses and try to reduce them as much as possible. This will increase your cash and profits. Accounts Receivables is another area that may require some work to collect any receivables owed to you. You may want to consider restructuring existing debt to improve cash flow and working capital ratios. Consider liquidating unused or redundant assets to improve working capital as well as increase cash balances. Never forget to look at salaries, even your own, for a possible reduction.
In today’s business climate, banks will require a personal guarantee for the loan. For this reason, your personal financial condition will be critical in securing financing.
Preparing the Loan Package
The next step is actually beginning the preparation of the loan package. The different parts of the loan package are discussed below. Remember to customize each to your specific situation.
- Financial Data – Usually two to three years of internal financial statements will be required as well as three years of projections on the balance sheet, income statement and cash flow statement. Other financial data may include prior year’s tax returns, financial ratios, information of historic growth rates, etc. Include any other information that will convince the banker of the fiscal soundness of your business. If your financial performance has been poor, emphasize the positive aspects of the business such as improved gross margins, increases in cash flows or key financial ratios.
Businesses that are start-ups will not have prior financial data. In these situations, projections and budgets are critical. These budgets and projections should be supported by factual information to support the fact that goals are creditable and not just “pie in the sky” wishes.
- Industry Data – Including knowledge of pertinent financial ratios and industry statistics will further convince your banker of your creditability. Be sure to point our areas where you exceed the industry’s performance in a particular area. Sources for this type of information are trade associations and Internet resources. One such Internet source is First Research. http://www.firstresearch.com/?utm_source=GGL&utm_medium=PPC&utm_term=first%2Bresearch&utm_campaign=Industry%2BProfiles%20%282%29.
- Ownership Information and Resumes -This information is important no matter whether you are starting a new business or trying to obtain funding for an existing business. Information about you and other principal stakeholders in the business regarding background, education, experience and capabilities is vital.
- Financing Plan – In a well-written narrative format, you explain the reasons for the financing request, and the amount and repayment terms of the request. Identify the use of the loan proceeds. All of your loan package including this section should be tied together into a concise financing plan.
Other information may be needed to substantiate your loan request. When requesting financing for a new business, always include information on marketing, management plans, industry background and predictions, and pro forma financial information.
If a working capital loan or line of credit is requested, you should provide information on how much funding will be needed during slow periods and how it will be repaid during peaks.
One important rule to remember is not to hide unfavorable information. A particular area where this comes into play is the strengths and weaknesses of the company. Such information should be fully disclosed including how you plan to overcome the problem. Full disclosure will add to your professionalism, while the failure to disclose will undermine your creditability.
- Secure a Second Opinion – Last but certainly not least is to have someone else look over your loan package, such as a financial advisor or CPA. This person can offer an objective analysis of your efforts, point out shortcomings and make suggestions for improvements.
In summary, do your homework before applying for a loan. Know your business, know your industry and know the answers to questions before they are asked. Having this information will greatly enhance the probability that you will be successful in obtaining your loan.
If you need help in pulling your loan package together, a B2B CFO® is available to assist you with all or any part of the loan package.