When you apply for a business loan, you have great reasons to want the lender to respond positively: as an entrepreneur, you’re confident about the future of your business; you have accepted the risk of devoting your time and knowledge to the venture; and with more cash, your dreams of greater profitability will surely be realized.
Or will they?
Banks are not confronted with the same risks and rewards as business owners. A bank lender doesn’t participate in the upside potential of your company. The bank isn’t entitled to a huge payoff by sharing in future profits. Lenders only earn a modest amount of interest. And they may not even receive that if the loan doesn’t produce the desired cash flow.
Therefore, as a borrower, you must demonstrate that your business is worthy of the lender’s risk.
Business financial history
The bottom line, as far as the bank is concerned, is that the loan is repaid. So walking into a bank without proof that you can be trusted to do this is a fool’s errand. The loan application process is an informative presentation of facts, not a sales pitch.
When your business is ready to seek a loan, approach the bank with up-to-date, accurate financial records. You will not succeed with financial statements that are like an un-watered Christmas tree with its needles shedding everywhere. Lenders must be comfortable with the completeness of your financial data. Your lender will consider you unfit for borrowing if your accounting is inaccurate.
Ensure you have Balance Sheets, Income Statements, and Cash Flow Statements for each of the past three years plus the most recent month-end. You’ll also need the previous year’s tax returns that match your financial statements.
These statements reveal profit margins, overhead costs, and cash coverage for loan repayment. Be prepared to discuss these measures and the trends they show over time. Understand each figure and its past fluctuations. Practice sentences that begin with, “This loan has a reduced risk because . . .”
Loan benefit and repayment
You will need to show how you will repay the loan. This is generally a function of how your business deploys the loan proceeds. Therefore, present the borrowing purpose clearly and explain how it will benefit your company’s ongoing success. Perhaps the loan will permit the company to expand with new space or equipment, or it may allow you to accept more work while waiting for payment for completed jobs, thus improving cash flow.
Whatever the purpose, it should define an expected business improvement and demonstrate the advantages – and the loan repayment strategy – with a financial forecast.
These projections of future cash flow are built by using the time and cost of sales to customers, the gross profit on sales, and overhead expenses. Forecasts must be consistent with known facts. So don’t be overly aggressive in your assumptions.
Remember that your accounting professional can be a great source of support. He or she will be able to help you construct a conservative, believable forecast so you’ll win your loan.