Financial Tips: Getting a Loan Despite the Credit Crunch
By David M. Wehrle, CFA, CIRA, CTP, Partner of BMF Advisors LLC and Michelle L. DeGordon, CPA, CIT, Senior Manager
The financial crisis that hit the U.S. economy in 2008 is continuing to impact the commercial credit markets negatively, resulting in an ongoing business credit crunch. Over the past 15 to 18 months, most banks have tightened their lending standards in order to reduce their risk exposure. This has made it hard for even some well-established and creditworthy businesses to get the financing needed for working capital, expansion or growth. Companies in search of financing today must do everything they can to position themselves favorably in the eyes of banks and other lenders.
Focus on the Five CsIn the current environment, most banks are returning to their traditional emphasis on a borrower’s character, capacity, collateral and capital, along with current market conditions. As you prepare to approach your bank to discuss financing, do some self-evaluation to see how your business measures up in each of the following five areas.
Character: Do you and your managers have a strong reputation in your community and industry in terms of how you treat customers and employees? Are you willing to take responsibility for your actions and their outcomes without making excuses? Do you do what you say you’re going to do, when you say you’re going to do it?
Capacity: Cash is king. It’s a cliché but more true today than ever before. There’s simply no substitute for strong cash flow. Lenders want to know what is driving your cash flow and how stable and dependable it is. They will look for cash flow patterns — positive or negative — and try to determine future trends.
To help gauge your capacity, your banker will try to determine how much debt your business can assume (this is known as your debt service capacity) by calculating a variety of financial ratios and comparing them to industry benchmarks. Examine your current debt load before approaching a lender to ask about additional financing.
Capital: Most lenders want to know if you are personally invested in the business with some of your own money — or in other words, what you have at risk. They like to see that owners have “skin in the game” before making a loan.
Collateral: Almost all loans (especially nowadays) require that borrowers pledge a secondary source of repayment, or collateral, in case the loan itself cannot be repaid. Banks usually like to see hard assets, like real estate and equipment, pledged as collateral because these are easier for them to convert into cash if the loan is not repaid. If yours is a service business without hard assets, you may be required to pledge personal assets as collateral — most likely, your home.
Conditions: In evaluating your loan request, lenders will consider the general economy and your specific industry. While general economic conditions today are less than ideal, the situation in certain industries is better than others — a factor that could work in your favor. Lenders will also focus on your company’s ability to withstand short-term financial adversity, primarily by looking at how liquid you are.
And Now, the Two PsIn addition to the five Cs of credit, there are two Ps you should also
consider: proactivity and preparation.
Some business owners only approach their bank when they need to borrow money. Instead, be proactive by establishing a relationship with your banker long before you need a loan. Your banker has probably worked with other businesses in similar situations and can therefore provide assistance and advice beyond just a business loan.
Also, be prepared when you meet with your banker. Do you know specifically why you need to borrow money, how much money you need to borrow, and when and how you intend to repay it? Are you prepared to discuss any collateral you can pledge? Bring detailed financial information to your meeting, including both business and personal tax returns, financial statements (see “The Role of Financial Statements,” below), and your business plan.
All financial records and information should be up to date. This includes a current listing of accounts receivable agings and details of your most recent collections efforts. Be prepared to demonstrate adequate accounting, bookkeeping and internal control systems, as well as accurate sales and cash flow forecasts that are based on reasonable and realistic assumptions.
Persistence PaysWhile the lending environment has changed drastically over the past couple of years, the fact remains that there are lenders prepared to entertain and approve loan requests for companies with strong management, a viable core business and a solid strategic plan.
In fact, financially strong companies may find themselves in an advantageous position. Banks, after all, are still in business to loan money, and the less risk they perceive in a company, the more attractive they will view the credit.
Finally, keep in mind that in the current economic environment, it’s impossible to over-communicate with your banker. Keep him or her informed about every relevant development at your business, whether it’s good news or bad news. And remember: Bankers hate surprises.
Sidebar
The Role of Financial Statements
Lenders will want to see three primary financial statements as they evaluate your loan request:
Balance sheet: This is a snapshot of your company’s financial position at any time, reflecting what your company owns (your assets) compared to what it owes
(your liabilities).
Income statement: Also known as a profit and loss statement (P&L), this tells you how much money you made or lost during a given period of time (usually a month, quarter
or year).
Cash flow statement: This final component ties the balance sheet and income statement together, reconciling the change in your cash position from the beginning to the end of the period being measured (usually a year). It tells you where cash came from and what happened to it.
Tip: Don’t look at your financial statement numbers in isolation. Compare them from quarter to quarter and year to year to look for trends that can help you improve financial management.
For more information, contact us at 330.762.9785 or by email:
Dave Wehrle, partner, BMF Advisors, email
Michelle DeGordon, CPA, senior manager, email