Thinking of applying for a bank loan to finance your business or augment your start-up capital? To increase your changes for getting the bank loan, you need to know the criteria that loan officers use when they review loan requests.
When it comes to loans, bankers are looking for answers to a series of questions that fall under five categories: character, capital, capacity, collateral and guarantees, and conditions. To get approval for your bank loan, you need to provide satisfactory answers and proof to these loan criteria:
The first thing that loan officers look for when reviewing a proposal is evidence of your trustworthiness. Your loan application can be rejected without even reviewing your proposed business idea if loan officers find any evidence in your background indicating lack of integrity. They would ask questions like: “Who are you? How long have you lived where you live? How long have you been in business? Do you live up to your obligations? What is your standing in the community? The answers to these questions will normally come from your business plan and references.
In addition, banks will rely heavily on your credit history. They want to know if you have always repaid your obligations. If there are noticeable blemishes in your financial, professional or personal background, your chances of getting a loan is significantly reduced. So expect questions like, “What do your suppliers say about you? What about your personal credit history? How will your credit history reflect on your credit future?”
Capability to Manage the Business
Banks need to be sure that the person/people making the business decisions know what they are doing. Mismanagement is the foremost reason for the failure of new businesses, and banks naturally would want to avoid that. Loan officers would want to know the professional background, previous business experience, relevant education, and level of success of the business owner. If you have limited experience, you will have more chances in getting a loan if you are a franchisee of an established business, or if you bring in someone with more solid experience.
If the bank feels that confident about your personal background and your ability to make good judgments when making business decisions, the next step for them is to determine the capability of your business to turn up a profit. They will now ask: “What is your ability to repay the loan? How are the loan proceeds to be used? How will they be repaid?” Banks are particularly interested in: (a) how soon you can generate a positive cash flow; (b) when you will show a profit; (c) how large will it be; (d) whether your profit will be lasting; and (e) whether various assets will be financed via debt or equity. The answers to these questions come from a review of your financial statements, particularly your cash flow statements, profit and loss statements, and personal and corporate tax returns.
Collateral and Guarantees
Your collateral is important, but banks put more premium on the potential profitability of your business proposal. Your collateral represents an “escape hatch” for your bank, and banks normally want it to be large enough to be able to cover their losses (if at all) and easily convertible to cash. From your projected cash flow and list of assets, bankers will ask “How can you be sure of your ability to repay the loan? What can you offer the bank as an alternative source of repayment? In most instances, the bank will require the personal guarantees of all principals. Besides providing another source of repayment, it also shows your commitment to the business.
Context of the Business
No business exists in a vacuum, and loan officers would look at a number of factors that may potentially impact on your kind of business. They would pay particular attention to potential economic, legal, employee, supplier, or environmental problems. Expect questions like,” What is the state of the economy? Are there environmental issues to be concerned about? How could these affect the financial condition of your business?” Loan officers tend to consider loan applications more favorably if: (a) you are introducing a new product or service with an obvious demand; (b) there is little competition; (c) your market is composed of small independent businesses; and (d) lower rate of failure in your type of business.
Conditions or Terms of Loans
The nature of your loan request is another important factor that could affect the results of your application. Banks would want to know three important things: “How much money are you requesting? What will it be used for? and For how long will it be needed?” Banks oftentimes prefer to approve loans for items that can be identified, has lasting value, and can be repossessed and sold if things fail.
Category: Finance a Business