Small businesses can obtain modest lines of credit by applying for credit cards—most of which will issue on the basis of a mere credit check by the issuing agency.
Significant loans for the purchase of real estate, equipment, raw materials, or purchased components—and serious lines of credit—will require documentation of a correspondingly serious nature. Getting large loans is functionally identical to getting start-up financing in that the same kind of preparation, planning, care, and documents are necessary. A loan proposal will minimally consist of the proposal itself, a business plan, and financial data. Comprehensive presentations fare better than brief, skinny, and minimal packages—all other things equal. The miraculous also sometimes happens—namely a large loan approved on the basis of a conversation with your bosom buddy, the local banker, but that sort of arrangement usually only happens after decades of dealings, not in the ordinary case.
A focused and professional approach is stressed by experts as a crucial element in getting funded. Kenneth DeWitt, for example, writing in Commercial Carrier Journal, cited the New Hampshire Commercial Financial Group (NHGC) as follows: “The vast majority of all business-financing proposals are eventually turned down. Key reasons for decline include (1) inadequate cash flow, collateral or security, and (2) proposing financing that is not compatible with a reasonable assessment of risk. But another reason is a submission that is either unprofessional or insufficient.” [Emphasis added.] DeWitt added that most business owners start with two strikes against them. “They are unaware of and unprepared for the standards they will be expected to meet in order to obtain financing.”
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Preparations And Reconnaissance
Most lenders give more attention to loan proposals prepared specifically for them and therefore tend to give lower rank to “one size fits all” submissions obviously aimed at multiple lending agencies. But in order to personalize a loan proposal, the business owner must get to know the lender and internalize the lender’s needs and biases. It is, of course, best to select a bank in the first place with a view of using it later as a lender. In that process the owner begins his or her own “look at the landscape” before a loan is ever discussed. Later, as the need for a loan makes itself felt, financial advisors to small business (the Small Business Administration in the lead, but echoed by virtually every one else) recommend preliminary discussion to get a feel for the lender’s criteria, qualification rules, the kinds of proposals the lender expects to receive, and the process of review to follow. As a minimum the owner ought to know smallest and largest amounts available, kinds of collateral expected, types of loans offered (line of credit? real estate only? lease financing?). Some banks have policy-based restrictions which may involve geography or type of business. If the lender is a poor match, the owner is welladvised to go elsewhere—and possibly open a second account at (or move the account to) the bank which looks most promising. Lenders tend to favor their own customers, again, all else equal.
It is generally desirable to have preliminary contact with the lending officer before a proposal is actually submitted. In smaller banks and when substantial loans are involved, this person may well be the bank’s president. The business owner researching the loan application process and potential lender can indicate the size and nature of the loan in broad outline and thus get a feel if a proposal is likely to be welcomed. Many banks handle unusually large numbers of transactions, the evaluation of which is automated by using so-called loan origination software (LOS). In attempting to talk to people, the owner can determine in advance the amount and kind of attention the loan proposal is likely to receive and either adapt to the procedures or go elsewhere.
Elements Of The Proposal
The loan proposal may be broken into four elements: 1) the loan itself, 2) description of the business subdivided into several categories, 3) financial data, and 4) references.
In addition the owner will typically write a concise cover letter which briefly highlights the proposal; and the proposal may have appendices as well, if appropriate, such as photographs, testimonials, possibly even samples. It is well to keep the objective in mind: the loan proposal is a document intended to communicate facts and projections, the latter documented as well as possible, and to persuade the lender of the merits of a case. Everything helpful to achieve this objective should be present.
Loan Description The first element should describe the loan—why it is sought; the benefits anticipated; how much is being borrowed; anticipated repayment schedule; how repayment will be accomplished and from what sources of money; and the collateral being offered to secure the loan. Many banks require that this portion of the loan proposal be put on forms that they provide. If the forms are unsuitable for communicating some piece of vital information, additional sheets may be added to amplify the presentation.
Business Description This part of the proposal should include information on the company’s history and projected future path; its management, including resumes of key individuals; and an assessment of the business’s market, including its general features and trends, competitors of the business, and key vendors and customers. If the company is relatively new, this information is sometimes supplied in the form of a business plan—typically an updated version of the plan used to obtain initial financing. If the company has been in operation for some time and it prepares an annual plan, that plan itself may be usable or adaptable for this purpose.
Financial Documents The business should submit at least three years’ of financials—balance sheets and income statements. These should be year-end data for the past and the last month of data for the current year.
Federal income tax returns for the same period should be included. Projections of operations should be made out for one year at least by month. A separate cash flow projection should accompany this part of the proposal— vital because ability to repay the loan is based on net cash flow. If finances are audited, the audit report will be included, of course. In some situation it will be also necessary for the owner(s) to submit personal financial statement(s) as well. Details on important liabilities should be provided up front—other loans, lines of credit, leases etc., the providing agency’s or agencies’ names, terms, maturities, etc.
References Included in this section will be contacts with knowledge of the business, including its outside accountant, if any, a payroll service, the law firm, and occasionally major suppliers able to comment on the company’s bill-payment performance and clients who can testify about future intentions to buy from the company.
Review And Submission
The business owner should anticipate presenting and defending the loan proposal to the lender. The best preparation for this will be careful review of the proposal, looking at it as if from the lender’s perspective. Thinking through the questions that are likely to be asked and preparing thorough answers to those questions in advance is also very helpful.
Successful businesspeople come in every conceivable variety, from detail-oriented number crunchers to charismatic, high-flying salesmen barely able to multiply 12 by 3. The lender, of course, will be oriented toward numbers and facts, will want to talk about them, and will expect the owner to interact effectively on the details.
For most owners this is not a problem, although a little homework will help. Those unskilled at this sort of thing and relying on a financial officer to herd the numbers is well advised to take that officer with him or her to the presentation.
In the real world all aspects of the loan process are vital—the initial reconnaissance and lender qualification, the proposal itself not only in its comprehensiveness but also in the rationality of its internal strategy, and finally the presentation to the lender. When all these aspects are handled effectively, the loan may still be turned down. If so, the final step, careful follow-up to discover the reasons for the turn-down, will get the owner ready for the next assault on Money Mountain.