By: Rayanna Anderson
Often, you hear stories about how difficult it is to get a small business loan from a bank. Strategically, here are several approaches to get a bank to part with their money.
Consider purchasing an existing business. Bankers are much more likely to finance a business that has a financial history they can review. Lenders will want to see at least three years (if available) of financial statements with corresponding tax returns — and so should you. Ideally, current cash flow from the business would be able to support the expenses under new ownership along with the proposed loan payments. This option, as with others, requires the new owner to have some “skin in the game.” Typical owner injection requirements are 20 – 30% of the purchase price. However, the more the better.
Another benefit to the purchasing-an-existing-business strategy is that the existing owners are sometimes willing to finance a portion of the purchase price. This amount can contribute to the equity requirement for the overall purchase amount. However, the existing owner will be in a succeeding position to the bank for collateral and may not be able to collect any payments until the bank loan is paid-in-full. This opportunity may allow the business to sell for a higher price and to sell to a buyer with less financial strength.
Purchasing an existing business with a U.S. Small Business Administration backed loan over $250,000 also triggers an independent valuation, an estimation of the business’s worth carried out by a professional appraiser. In addition, a sale to a closely held individual such as a relative, employee or partner can be expected to prompt a compulsory appraisal. While the “right” price of a business is ultimately what a knowledgeable buyer is willing to pay, the price structure must also fit with the banks loan requirements.
Buy a franchise. Buying a franchise is similar to buying an existing business. There is a historic track record, even when it is in a different city or state. Essentially, you are buying a business process and product line that has been proven. That fact allows a bank to skim over the idea and concept you are presenting and focus primarily on your ability to run the business and your proposed location. While easier to finance, franchises can be more costly to operate over time. Most franchises require monthly franchise fees between five and six percent of gross sales, plus additional marketing fees.
Furthermore, franchises are not intended for independently minded entrepreneurs. A strict adherence to systems and processes and observance of company rules and regulations are required. Lastly, to be financially successful, franchise owners usually need to own several locations. Therefore, it is common for expansion requirements to be part of the franchise agreement.
If you are starting from scratch, have a complete business plan. Furthermore, just like knowing all aspects of your proposed business, it is good to understand your banker and specifically what your banker is looking for in order to loan you money. The lenders I know are great people and logical thinkers. The number one criteria bankers are looking at is how you plan to pay them back. That is why understanding the numbers in your business plan is critical when asking for money. You need to be able to explain how you are going to make money, as well as make a credible projection of your future sales and expenses, with the emphasis on cash flow. Also important is knowing: competitors’ strengths and weaknesses, who your customers are, how you are going to reach them so they will buy your product or service, and why they should buy from you instead of someone else.
Ultimately, bankers are looking at who is requesting the loan as their first priority. This is why bankers continue to assess your character or willingness to pay back the loan and capital (your stake in the business) as essential links to becoming an approved business loan applicant.
Rayanna Anderson, MBA, is director of the Small Business Technology Development Center and the Management Development Institute at Missouri State University’s E-Factory. Anderson writes about issues she sees regularly in her consulting with small businesses in Springfield and the state of Missouri. Email: email@example.com.
This article appeared in the March 18, 2016 edition of the News-Leader and can be accessed online here.