Month: July 2017

How Cash Flow Influences your Ability to Borrow

How Cash Flow Influences your Ability to Borrow

Business lenders put a high value on analyzing a borrower’s cash flow.  It’s seen as having significant predictive value in whether the borrower can pay back the loan since it will usually be the primary source of funds for repayment.  The financials that a lender requires varies but they will typically look at one or more of the following: bank statements, tax filings, and internal financials (such as a Profit and Loss statement and a Balance Sheet).

Earnings

A good place to begin is your EBITDA – earnings before interest, tax, deductions, and amortization.  This value should match across your records; in other words, the earnings you report on last year’s business tax filings should be the same that you’ve arrived at in your internal financials.  Often, lenders will have a form that you will sign in applying for a loan that allows the lender to verify your tax records with the IRS.  This means they will ensure that whatever tax records you supply match precisely with the ones that you filed.   Lenders have been doing this a long time- and they have processes in place to check for data consistency across a borrower’s file.

How Earnings Impacts Debt Service Coverage Ratio

Debt service coverage ratio (DSCR) measures the availability of a business’ cash flow to pay its debt obligations.  The formula is:

Earnings Before Interest and Tax (EBIT)   /   Total Debt Service Payments

A DSCR of 1 means that a business earns just enough to cover its debt obligations.  It means that Earnings and Debt obligation payments are exactly equal and would cancel each other out.

Put yourself in the position of a lender.  How comfortable would you feel if you let someone borrow money and learned that they earn just barely enough to pay back the debt?  You know that any change in the borrower’s circumstances could be enough to reduce his ability to afford the debt- a reduction in income, an unexpected expense, etc.  He is right at the razor’s edge and there is little margin for error.  For this reason, lenders – whether they be banks or alternative lenders – look for a DSCR comfortably above 1.  It varies but you may see a requirement of 1.15 for lenders with looser criteria or 1.25 for a lender with tighter criteria.

For example, the Small Business Administration (SBA) loan program, states the following in “Credit Standards for SBA Lending” for loans over $350,000:

Debt service is defined as the future required principal and interest payments on all business debt inclusive of new SBA loan proceeds. Business applicant debt service coverage ratio (OCF/DS) must be equal to or greater than 1.15 on a historical or projected basis;

The lender will consider not just existing debt obligations but the total debt obligations including the new loan.  In the case of a business loan, the lender may evaluate the DSCR of both the business and the owner.  A sufficient DSCR, as determined by analyzing a business’ cash flow, gives a lender confidence that its loan will be repaid.  This is why cash flow ranks so highly to lenders when they evaluate the loan application.

Improving your Cash Flow

Improving your cash flow processes leads to a better financial picture and it therefore improves your standing for getting a business loan.  Roughly speaking, there are two main processes affecting cash flow- accounts payable and accounts receivable.  This relates to money you owe other companies and money you are owed.

Prioritize Collections & Advance Payment

Business owners often begin with a trusting attitude when it comes to their customers paying them what they are owed.  The tasks of running a business easily fill the day, and the time and willingness to collect overdue payments sometimes isn’t there, especially since it often entails uncomfortable conversations.  However, it’s necessary for a small business owner to prioritize collection from customers who are late on payments.

One solution to delayed payment is to collect payment upfront.  When you start, more lenient payment terms may be used to ensure an initial customer base.  As you earn trust with your customers, it is acceptable to ensure smooth business operations by insisting on being paid ahead of service or product delivery.  If you have an ongoing service, you can bill at the beginning of the month or week.  If you have adequate security measures, you can also keep the customer’s credit card on file and, with the permission of the customer, charge it at regular intervals.

In some cases, it may be appropriate to charge for more than one pay period upfront.  For example, if you sign up for a WordPress.com blogging account, they cite a cost per month, but they inform the customer they will be charged on that per month basis for 12 months, up front.  This allows the business, WordPress in this case, to augment their cash flow position by receiving the payment in their bank account as early as possible.

In a way, receiving upfront customer payment is a bit like receiving a loan from the customer- a kind of financing that provides cash immediately and allows you to attend to your business expenses with those funds.

Negotiate Payment Terms with Vendors

Many vendors offer varying payment schedules but don’t publicize them.  For example, they may claim Net 30 days is standard but after a discussion with your vendor contact, they are willing to move your account to Net 60 days.  The delayed payment terms businesses offer each other is called trade credit.   Chances are, your business may have simply scratched the surface on what’s possible as far as fully taking advantage of trade credit with your vendors.

By pushing payments out further and receiving revenue sooner, your business before and after is technically the same.  Your product or service remains the same, your customer base stays constant and so do your stable of vendors.  But you are a very different company from a financial point of view – and this is what lenders are evaluating.

Cash Flow and Borrowing

Optimizing your cash flow is a good thing to do, period.  It also has the advantage of bettering your chance at receiving a loan, or increasing the size of the loan you qualify for.   If you’re interested in better understanding your company’s cash flow (as well as improving it), there may be a Small Business Development Center (SBDC) near you.  SBDC’s are a program of the SBA; they are hosted by colleges and state economic development agencies.  They provide classes and guidance on an array of subjects affecting small business owners, including how to track your cash flow & tips for how to keep your cash flow healthy.

The more familiar you are with your cash flow, the better you can explain the cost and revenue dynamics to your lender.  Given the importance of cash flow, the reality is that a well-liked business with a product in-demand that doesn’t have a tightly watched and controlled cash flow may not be eligible for a loan.  Meanwhile, a smaller business that has efficient methods of collecting payments from customers and has secured extended payment terms from the businesses it buys from, may well be eligible for financing.

Famed business consultant and author Peter Drucker once said, “Entrepreneurs believe that profit is what matters most in a new enterprise. But profit is secondary. Cash flow matters most.”   This saying applies to small business lending as well.

Video Spotlight: SBA Lending: 7(a) and 504 Loan Options

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Transcript – Provided and/or Formatted by BorrowStar

Welcome back! Today we are talking about business financing; specifically, using a United States Small Business Administration or “SBA” loan through one of your local banks. My name is Thomas Rockwood and if you have any questions whatsoever about SBA financing or would like more information please reach out to me directly at Thomas@LifeForth.com. Today, specifically, I wanted to go into a little bit more depth into the two programs you have access to within the SBA. One is the SBA 7(a) Loan, and the other is an SBA 504 Loan. Given your specific circumstance and what you’re trying to use loan proceeds with, you might have an option to use both or one of the two programs at your disposal and the rates and loan structures are typically very between them. I wanted to answer some of those questions I commonly get in regard to rate, structure, and the SBA 504 verus the SBA 7(a) loan.

I think most businesses, when they are out looking for loans– especially, in a business acquisition or in a start-up scenario– they’re gonna fall more commonly into an SBA 7(a) loan. And the reason really is when you are doing a business acquisition, there’s a heavy portion of loan proceeds that are gonna be going toward purchasing goodwill or intangible assets. When you are doing a start-up, typically, you’re not buying a lot of fixed assets. You’re going to be buying inventory, some equipment, you’ll need a lot of working capital to get your business off the ground. And so those assets really are short-term in nature and a 10-year loan term works well for those assets when you are using an SBA 7(a) loan. The 7(a) loan is a broad brush tool.

Is kind of the way I like to look at it. You can fund almost anything with it that your business might need. So, from working capital, from inventory, if you need to build out furniture and fixtures for your building, if you need any specific equipment. You can buy real estate with it. You can do a lot of different things with an SBA 7(a) loan. Most 7(a) loans are on probably 10-year terms, unless there’s real estate involved, in which case, your term of your loan can go out to 25 years.

If you’re using a lot of proceeds to fund intangible assets or short-term assets as well as that, you might find a bank that’s gonna do a blended term. So, your real estate at 25 years but then the rest of your stuff is at 10 years. So, you might end up with an 18-year loan or a 15-year loan depending on how much loan proceeds are going towards long-term assets versus short-term assets. Specifically, when it comes to real estate, you can obtain an SBA 7(a) loan and amortize that over 25 years (the whole amount) as long as the majority of your loan funds are going toward the real estate purchase. So, if you’ve got an expensive piece of property or most of your project are to fund your real estate acquisition– most of your loan funds are going in that direction– you can probably get a loan term on an SBA loan for 25 years. But still include some working capital, maybe there’s some growth that needs to be funded through working capital components.

Maybe there’s a small piece of equipment that needs to be acquired as well so some proceeds are going toward short term or aren’t going to have a useful life of 25 years. But the majority or your funds are going towards real estate and the long-term assets? Then you can take an SBA 7(a) loan and stretch it out over 25 years. The other program that the SBA offers for fixed specifically is the SBA 504 loan. Most of the SBA 504 loans have a useful life, if you are using real estate, have an amortization or a term of 20 years or a portion of it and then there’s a second loan the bank has and that has to be for at least 10 years. So, with an SBA 504 loan, you’re gonna put in a portion of the funds, the SBA will have a portion, and and then the bank will have a portion.

Specifically, as it is today, the borrower/the business has to put in 10 or 15 to 20 percent depending on the type of business you are running and where you are in that business’ life cycle. But let’s just use a 10 percent cash injection scenario. So, the business will have to put in 10 percent, the SBA will fund 40 percent, and then the bank will have a note for 50 percent of the loan. So in that case, the SBA portion– or 40 percent of your loan– if you use a million dollar project, you’re putting in a hundred thousand dollars the SBA will have a four hundred thousand dollar loan to the business, and then the bank will have a five hundred thousand dollar loan. So, in a sense, you have nine hundred thousand dollars. The best part of this from the business’ perspective is that there’s no refinance necessary for the first ten years because the SBA component is over 20 years at a fixed rate and it’s no balloons, no prepayment penalties on that piece.

On the SBA 504 loan the SBA component is a fixed rate for 20 years with no balloon payments. On the bank portion, the 50 percent portion, that has to be at least over 10 years. And so there’d be a balloon for that 50 percent some time around the ten year mark. You’re gonna have to refinance. But some banks will actually do a 20-year term and no balloon necessary in that time as well. So you’ve got two different loan structures.

Primarily, SBA 504 loans are involved in real estate or or long-term heavy equipment acquisitions or projects that involve acquiring that for the business. (a) loans? You can use them for real estate but you can also use them for a broad range of other things. I would say, currently, from a rate perspective, SBA 504 loans have a fixed rate for the SBA component. The bank portion is really up to the bank. And I see rates structured at– fixed rates–at one year, two years, three years, five years it might adjust.

Some banks will do rates fixed for ten years. So, that’s gonna be a bank by bank appetite. So, really, talk to your lender. Talk to a couple of lenders. And figure out what they’re willing to do given your business’ scenario and what you’re trying to pull off. (a) loans?

Some banks will fix a rate for one, two, three years on a 7(a) loan. Some banks will fix them for the entire term. Most banks that I see currently in the market given what you are trying to do with it, they will do a quarterly or monthly adjusting rate. So, you’ll have a margin over prime. Prime right now is three and a half percent as of the time of this recording. So, they’ll do prime plus 2.7, which is the max rate, or lower.

And that’ll adjust either monthly or quarterly. Some banks will fix it for a year, two years, three years depending on the project and what you are trying to do with it. So, that’s hopefully heading you down the right direction in terms of the types of projects you’re doing, the types of interest rate and terms that you can expect from using an SBA loan to finance your project. Again, my name is Thomas Rockwood. If you have any questions whatsoever about SBA financing or you want to have a more in-depth conversation about your specific project, please feel free to reach out to me directly. You can reach me at Thomas@LifeForth.com.

Video Spotlight: Low Interest Business Loans

 

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Transcript – Provided and/or Formatted by BorrowStar

Regardless of the state of the economy, all entrepreneurs, either new at their trade or old hats in business, when seeking financing, tend to get caught up in haggling over the lowest possible interest rate that they can achieve. Who can blame them? Cost savings – especially while we are still experiencing recession like economic symptoms – may be the key to their business’s survival and their personal financial future. But, sometimes, merely basing a financing decision on just its cost (its interest rate in this case) alone can be even more detrimental. All business decisions should be taken in the whole – with both benefits and costs consider simultaneously – especially with business loans. Let me explain: In today’s market, any offer of a business loan – regardless of its costs – should not be taken lightly given the fact that these business transactions are hard to come by.

Thinking that this interest rate is too high and that a better one will come along tomorrow may just be destructive thinking as nothing may come along tomorrow – especially in this continued sluggish economy and all lenders being overly cautious. Further, if the business owner’s decision hinges so much on the rate of the loan, then maybe a business loan is not something the business truly needs at this time or may be a decision that just spirals the business further along an unhealthy path. Example: Let’s take a simple but common business loan situation. A $100,000 loan for 5 years with monthly payments at 8% interest. This loan would require monthly payments of $2,028 for the next 60 months. Now, let’s say the interest rate was 12% instead of 8%.

This would result in a monthly payment of $2,225 – nearly $200 per month higher. A significant increase – nearly 10% higher with the larger interest rate. This is what most business owners, when seeking outside capital tend to get caught up in – the lower rate means more savings for the business and thus a better decision. But, what happens if the current lender will not lower the rate from 12% to 8%? Or, if another, lower rate loan / lender does not come along? Is it still a good business decision?

Looking at the cost of the loan or the interest rate is purely one sided and could potential affect the long-term viability of your business – the benefits of the loan also have to be weighed in. Let’s say that the business can take that $100,000 loan and use it to generate an additional $5,000 in new, monthly business income. Does it really matter the interest rate at this point as the nearly $200 difference in the rate is really trivial (especially over the months period) compared to possibly declining the higher rate loan and getting nothing in return (losing out on the $5,000 in new revenue per month). Or, what if the business would only be able to generate $1,000 in new, extra income from the $100,000 loans? Then no matter what the interest rate (8%, 12% 50% or higher), the business should not even be considering a loan in this situation. Why do I bring this up?

Simply because I have seen business after business either lose out on their future potential or fatally harm their organization over a mere one or two percent increase in a business loan rate. We are just conditioned to think that if we do not get the rate we feel we deserve – then the deal is bad for us. That can not be further from the truth. Know that these conditioning instincts we tend to have are more from the fact that competitors (those other lenders seeking our business) tell us we can do better or that we deserve better – but in end only finding out that those ploys never really work to our benefit. The lesson here is that all business decisions are more complex then we may initially think or been lead to believe. We are taught from very early in life to negotiate for the lowest costs – like zero interest car loans or buy now with “the lowest mortgage rates in decades” – either case, one would not buy a car or a house (regardless of the interest rate) if there was not a great need – a need that provides more in benefits then its costs.

The same should be done with business loans. Loans are merely an asset to a business and should be treated as such. Business loan assets should be used to generate more in revenue than they cost – the more the better. If they are not being used (like any other business asset) to generate the greatest benefit that they can generate, then they should be pulled from whatever use they are currently being employed in and put into use that will generate the greater benefit. It is simply a law of business. Thus, merely focusing on only one side of a business decision – the interest rate for a business loan decision – can have an unforeseen, adverse affect on the business – creating more harm then good.

The entire situation should be taken into advice before a decision is made. In fact, in the case outlined above, the interest rate can increase as high as 56% for the 60 months before the cost would outweigh the benefits – provided there were no additional costs associated with the loan. In my experience, I have always found it much easier to look at the benefits first (like the increased monthly revenue that can be generated) then search out the lowest costs options to receive those benefits. But, as stated, this is essentially opposite of what we tend to be taught in our society or in our markets (remember the zero percentage auto loans – which have the lost interest revenue built into the price). But, sometimes the best entrepreneurs think outside the box and tend to go against any conventional wisdom we may have been subject to – mostly for the benefit of others and not ourselves. Therefore, when seeking a business loan and finding yourself fighting hard for a small decrease in your interest rate – be sure to step back for a moment and look at the entire picture – as a low interest business loan may not be in the best interest of the business in all circumstances.

 

Video Spotlight: SBA Lending- Advantages and Disadvantages of Financing with SBA Loans

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Transcript – Provided and/or Formatted by BorrowStar

Welcome back! Today, we’re talking about business financing. Specifically, using a U.S. Small Business Administration loan, or an “SBA Loan” through a local bank to obtain financing for your business. My name is Thomas Rockwood, and if you have any questions whatsoever about SBA financing or would like more information about getting access to capital for your business, please feel free to reach out to me directly at any time at Thomas@LifeForth.com. Specifically, today, what I wanted to talk about was some advantages and disadvantages of using an SBA Loan for the solution of funding your business. Whether it’s a business acquisition, you’re trying to get capital for an existing business, Or there’s a specific transaction you’re trying to pull off such as purchasing real estate, or expanding your location buying equipment, buying inventory, any of those things. Ultimately, I think that there are three reasons why businesses choose an SBA Loan over conventional lending or alternative finance. And I think that comes down to Cash injection or the equity requirements that involved, the term of the loan (how long you have to repay back that loan), and then the types of transactions you are trying to pull off.

Whether it’s buying a business, starting a new business, purchasing real estate buying equipment or inventory or just needing working capital. All of those things will have different appetites at different banks. One of the first things I think it’s important to look at is is the loan request that you’re trying to do for your business, is it eligible at the SBA? And then, after you get to a “Yes, okay. This is SBA eligible,” then it comes down to: “Is this is something that the bank wants to do?” Do they have the appetite to actually fund that type of transaction or that industry? Or given the factors of your cash injection or the term you are looking for, is that something they are interested in doing? Once you’re in that space and you are saying, “Okay. I have an eligible request.” Now, it comes down to appetite, then I really think you are looking at different banks as a solution, as opposed to eligibility and looking at it from the SBA side.

Advantages, specifically. Why would you want to look at an SBA Loan? There are advantages and disadvantages to every type of financing. So, we’ll start with what would really benefit your business. And I think that typically comes into the amount of cash you have to put the transaction. For example, If you are trying to buy or start a business, Typically, a bank’s gonna want to see cash injection There might not be specific regulation or direction from the SBA, in the SOP that says, that says you must have this specific cash injection amount. And in that case, you really dealing with bank appetite. I don’t see a lot of 100% financing anymore.

So, you know, a good rule of thumb is if you start with 20% or so of the project to inject, then I think you’re heading in the right direction. If you have less than that, , 10%, you might lose a few banks’ appetite but I still think it’s an eligible request depending on the type of business and what you are trying to do. You know, cash injection requirements are really going to be bank by bank. And that’s going to be something that you’re going to want to look at and assess as you’re looking at your lender. The other thing to really consider is the term of the loan. In a business acquisition scenario, the SBA will allow for a 10-year term. If you are trying to buy real estate, You can extend up to 25 years. Those are typically beyond what I would say the normal conventional loan would allow or what an alternative financing would allow.

The term of the loan is really a key component because that’s gonna spread your payments out over that much period of time and allow for the lowest possible payment on a month-by-month basis for your business. Whether you’re starting up or expanding that direction. So, the terms of the loan, I think, are a key advantage. And depending on what you’re trying to do, if you’re involving real estate or heavy equipment that has a long life, a useful life, you can get 20 to 25-year financing options, and there’s different loan programs that you can participate in. The third main advantage of using an SBA Loan is really going to be the types of transactions you’re able to do. A lot of conventional lending? They want to have tangible assets. If you can’t touch it, it’s probably not going to be financeable.

So, a lot of conventional lending is around equipment, around real estate, and they might do some lines of credit around your receivables. But in the case of a business acquisition, if you are buying a business and you are a new owner in that business? That might be a very tough transaction to find a lender to do conventionally. Alternative financing might not be an option because you don’t have a historical track record. So, the SBA Loan is a great tool to make that business acquisition, and it really provides the bank the incentive to say, “yes.” Say, yes to this transaction. Help this buyer make this acquisition and get this ball going for this company. Franchise start-ups Start-ups are also a tough one to pull off simply because you don’t have historical revenues. So, a franchise that’s eligible with the SBA, it’s a good option to use an SBA Loan to fund that start-up cost.

There’s a lot of start-ups that don’t have franchises. There’s specific regulation you’re going to want to talk to someone about your specific business you’re trying to start-up But I think that’s a great example of also a type of transaction that falls outside of the conventional financing option and outside of the alternative financing and falls well within the SBA. So, again, when you’re looking at SBA Loans, some advantages are always gonna be the amount of cash you can put in is gonna be probably lower than that of alternative or conventional financing. You can probably get longer terms which is gonna get you a lower monthly payment. And the types of deals you’re trying to put together…. If you are trying to do a lot of different things, such as, you’re starting a business that’s gonna need a lot of equipment, real estate, and working capital, plus you’re gonna need inventory. All of those things are eligible to be financed with the SBA Loans. So, depending on what you’re trying to do or how broad you need your financing to cover, SBA Loans have a good reach.

So, there’s a lot of talk about the disadvantages of an SBA Loan. We’ve gone through some of the advantages. You know, I think, commonly what I hear is: that either there’s too much paperwork or it takes too long or it’s too heavy on the fees. And I guess to address some of those, I think a lot of it has to do with you know, as you start your process with an SBA lender at a bank, I think your experience is going to be heavily dictated by who you are working with. The experience of that lender and of that bank doing SBA lending. Working with the right lender up front is going to help you set your expectations, it’s gonna map out the timeline it’s gonna take to pull of your specific transaction. And I think that’s gonna be the probably the most satisfying piece for your experience going through the SBA Loan process. There are checks and balances, and there’s a process to an SBA Loan.

It doesn’t matter which bank you go through. We all have to go through the exact same regulation and the exact same process for the most part. So, talking with your banker up front, and understanding what that is going to be– having that expectation set and laid out for you– is gonna make your experience much more pleasurable. The fees? The fees are the fees. I don’t think it varies too much bank-to-bank. In most cases, most lenders come in at about the same cost. The main advantage I see is going with an SBA Loan to cover those fees.

A lot of conventional loans, they don’t cover the closing costs. They don’t cover the environmental, the appraisal, the closing attorney, any of those other pieces. So, SBA Loan proceeds can cover that. The SBA also has programs– so, if you are a business and you are a 51% veteran-owned business or more so, if you are a service veteran, there’s fee reductions currently in place. And at the time of your loan application, you’re gonna want to talk to your lender about what those are. But on some loans, they waive the fee entirely. So, for the service you’ve put into our country, the SBA tries to at least reduce those fees where we can and help you get your business up and running and off the ground. I appreciate your taking the time to watch the video.

Take a look at the rest of the videos when you get a chance. If there’s a specific topic you’d like me to cover, please let me know. Again, my name is Thomas Rockwood and you can reach me directly at Thomas@LifeForth.com. Next time, we’ll be talking about some of these topics more in depth. So, check out some of those videos. Look at the other videos on the website, and hopefully, this helps get you in the right direction in terms of getting your business financed.

 

SBA Loans for Businesses

SBA Loans for Businesses

The Small Business Administration is a federal government agency which facilitates loans for American small businesses by providing a loan guaranty to the banks that ultimately provide SBA loans.

According to statistics, more than 99 percent of all business entities in the United States are small businesses. These businesses employ more than 50 percent of the private work force, over 40 percent of all private sales, and in excess of 52 percent of the private-sector output.

About the SBA

According to “The SBA Loan Book”,

“SBA” is the acronym for the U.S. Small Business Administration, an agency of the federal government established in 1953 to assist small business enterprises. Arguably the most important programs implemented by the agency are the loan assistance programs, which provide incentive to private sector commercial lenders (banks and certain licensed nonbank lenders) to extend longterm capital financing to qualified, eligible small businesses.

The SBA loan guaranty program has grown steadily over the years as a popular tool for small businesses to obtain capital financing. In 2009, with fluctuating economic conditions, difficult regulatory trends, and a collapse of the secondary market for guaranteed loans, the nation encountered a perfect storm. The agency experienced a rare but notable 37 percent reduction in the number of SBA loans funded (reduction of 30,811 loans), which translated into a 27 percent decline of loan volume ($5,175,000,000 decline).  But even in this disastrous year, the agency assisted with the creation of hundreds of thousands of jobs across thousands of communities in the United States.

The SBA 7a Loan Program

The SBA’s most significant program is the 7a loan program.  Often when SBA loans are referred to, the author is likely referring to the 7a program even if he or she doesn’t reference it specifically.  On the 7a program, the SBA Loan Book states:

The 7(a) loan program is SBA’s primary loan program for helping startup and existing businesses, providing funds for a variety of general business purposes. SBA does not make direct loans. Instead, it provides a credit enhancement to participating lending institutions in the form of a long-term loan guaranty. The costs of reimbursing banks for loan defaults is paid for from fees collected from participating small businesses getting loans and the lenders that fund them. While the guaranty reduces the risk to the lender, if you, the borrower, default, you must repay the entire debt. Small businesses can obtain financing through the program for acquisition or improvement of assets (real estate, equipment, operating business concerns, etc.), refinancing existing debt, or working capital.

Terms of Loans

A common question is: what is the duration of the loans that I can get from the SBA?  How many years do they go out?  From the SBA Loan Book:

Repayment terms are determined by the actual use of the loan proceeds according to limitations imposed on each purpose:

  • Loans used to purchase, construct improvements on, or refinance real estate can be extended for up to a maximum of twenty-five years.
  • Loans used to purchase equipment can be extended for up to a maximum of fifteen years (though usually limited to ten) or to the expected useful life of the equipment, whichever is shorter.
  • Loans used to acquire an operating business concern can be extended for up to a maximum of ten years.
  • Loans used to fund business working capital can be extended for up to a maximum of ten years.

Currently participating lenders are guaranteed repayment by the SBA for 75 percent of the total loan amount up to $2 million (80 percent for loans under $250,000) for a maximum loan guaranty of $1.5 million.

As you can see, the range of loans goes from 10 to 25 years.  This is considerably longer than the term for loans issued by both bank lenders (outside the SBA program) and non-bank lenders, when it comes to small business borrowers.

Business Credit Score Basics: a Primer

Business Credit Score Basics: a Primer

Did you know that, as a business owner, you don’t just have one credit score, but two?!

You have your personal credit score.  But your business also has a business credit score.  According to “Business Credit Decoded”, 90% of small businesses are unaware that their business has a unique business credit score independent from the owner’s personal credit score.

The Big Three consumer credit reporting agencies are: Equifax, Experian, and Transunion.  You’ve probably heard of some or all of them.  You’ve heard of the FICO score and you’ve seen the reporting agency names referenced on popular credit score sites like CreditKarma.  People are generally pretty familiar with the personal credit score.  It comes up in conversation.  When you apply for a mortgage, it’s one of the first items mentioned by the mortgage lender in terms of trying to ascertain which loans you qualify for and at what rates.  There are countless articles and books on how to improve your credit score.

But in contrast, business owners may go years before they become acquainted with the DUNS number, Paydex score, Intelliscore, or Dun and Bradstreet.  According to Entrepreneur.com,  less than 10% of small business owners were familiar with the concept of a business credit score (as distinct from consumer credit score).  However, this phenomenon is good news for those business owners who take the time to get up to speed on business credit and thoroughly understand how to put it to use on their company’s behalf.  The 90% of  business owners know nothing about business credit means more money available for the small percentage who do.

Companies ranging from Dell to Home Depot provide special programs and payment terms to companies depending on their business credit score (even though these programs of theirs are not “well-advertised”).  Companies from business lenders to leasing companies evaluate your worthiness based on your business credit score as well.  In other words, companies you’ve done business with have likely judged your eligibility for all kinds of programs and payment schedules without your knowing about it.

But how is a business credit score measured and how is it calculated?

Basics on the Business Credit Score

The consumer credit score goes from 300 to 850; a 300 credit score is lousy and most lenders will avoid the borrower like the plague.  Experian considers a consumer credit score of above 740 to be super-prime; these borrowers are eligible for the most loan programs at the best rates.  The definition for sub-prime borrowers varies and there is no fixed definition.  However, many define sub-prime as a consumer credit score of under 640.   “Sub-prime” was much mentioned in association with the 2008 global financial crisis due to the housing bust brought about, in large part, by sub-prime borrowers who defaulted on their loans.   Such sub-prime borrowers are generally now excluded from consideration for mortgage loans, and are often rejected for other kinds of loan products such as credit cards and auto loans.

The business credit score has a different scale than the consumer one.  It goes from 0 to 100 (instead of 300 to 850).  Of the three main business credit reporting agencies, two are familiar, as they are major players in consumer credit reporting: Experian and Equifax.  But instead of TransUnion rounding out the top three, the third major business credit reporting agency is Dun & Bradstreet – the most influential business credit scoring company.

How is my Business Credit Score determined?

The business credit score (from 0-100) is a percentile score.  It is relative to other businesses and reflects the percentage of businesses that you score higher or lower than.  That is, if your business score is 70, that means that you have a stronger credit than 69% of the businesses out there, but there are 30% of businesses that have stronger credit than you do.

The main business credit scores are:

  • Paydex : business credit score by Dun & Bradstreet
  • Intelliscore: business credit score by Experian
  • Business Credit Risk Score: business credit score by Equifax (note: Equifax offers range of business credit scores that each use different number ranges)

The business credit score is largely determined by a business’ history of paying back its suppliers and vendors.  A score of 80 or higher is considered “good” or healthy credit.  A strong business credit score can be secured by ensuring payments are made promptly to suppliers and vendors.  It’s important for a business owner to have those accounts report favorable payment history to the business credit reporting agencies.  If bills are paid on time, the business credit score will be positive. But if payments are made late, the business credit score will drop.  The score will adjust according to how early or late the bills are paid.  If bills are paid on time consistently, then that business will likely have a score that is 80 or greater.

How on-time bills are paid is the main driver of the business credit score like Paydex or Intelliscore.  It’s a solid indicator to lenders of how likely that business is to make good on its financial commitments at an agreed-upon date in the future. Lenders evaluate this score carefully when deciding whether or not to give a business a loan.  Another important aspect of the Paydex score is that it is a “weighted average” score. This score gives more weight to the trade accounts that report greater amounts of credit extended and less weight to accounts that report lower dollar amounts of credit.
Have a look at the following graphic to better understand how individual payment events with vendors/suppliers get scored.  The cumulative scoring averages of these payment events contributes to the overall business credit score.

Source: “Business Credit Decoded”

As you can see, on-time payment yields a score of 80.  The earliest payment yields a score of 100.  The more delayed the payment on bills, the lower the score received.   Likely, not every one of your vendors and suppliers reports transactions to the business credit reporting agencies, but some of these transactions are captured, and overall, they are carefully monitored to calibrate the overall business credit score of your business.

Just as the consumer credit score has different components, such as history of repayment, credit utilization, length of time credit accounts have been active, etc., the business score has its own components that make it up.

For the business credit score, current payment status, trade balances, and percent of accounts delinquent account for 50-60% of the score makeup.   The historical behavior/payment history contributes 5-10% of the total score. The business’ credit utilization is responsible for 10-15% of the total score.  This has to do with the amount of credit that has been used by the business in relation to the balances they have on those accounts. The company profile, industry risk, age of business,  and size of business assessed by number of employees accounts for 5-10% of the total score.  Approximately 10-15% of the score is influenced by the derogatory items, collections, liens, judgments, and bankruptcies that business has.

In the following image, the components of the business credit score are summarized:

Source: “Business Credit Decoded”

Experian’s Intelliscore (an alternative to Dun & Bradstreet’s Paydex score) reveals other factors taken into consideration for their business score.  When Experian is assigning a business a credit score they take different factors into account. They refer to these factors as predictive data; they leverage predictive data to gauge a business’s risk as a borrower. The score is made of different components such as:

  • how recent are the delinquencies
  • how many accounts are current versus delinquent
  • average balances on accounts
  • the percent of balances seriously delinquent
  • the credit utilization ratio
  • balances on leases.

Experian describes firmographics as the background information of a business such as the industry/sector it operates in and the size of the business (measured by how many employees it has).  Firmographics also take into account the length of time the business has been reporting to Experian. They have found that a business with a longer Experian credit file, in terms of years in existence, is less likely to default.   

Experian also provides reports that reflect information about the business and the business owner’s personal credit history called “blended” reports.  The”blended” score of the business – which combines the business credit score with that business owner’s personal credit score – with the idea being that the two are both related to the likelihood of that particular business paying what they owe.

Studies show that consumer reports don’t offer the most comprehensive assessment of risk on their own. With blended reports Experian takes into account both factors from the business and from the consumer credit of the owner or personal guarantor.  The blended score factors in things like number of personal credit cards with 90%+ utilization.

Going Forward

Having a basic awareness of the business credit score puts you ahead of a surprising number of businesses who don’t realize that their payment histories are being carefully tracked and that this business score impacts what loans their business is eligible for.  This primer gives you the fundamentals of what the business credit score is, what contributes to it, and how it’s calculated.  While there is more to it, and certainly a fair number of techniques that can improve your score, it’s clear that maintaining a reliable payment schedule to vendors and suppliers is important to sustaining a strong business credit score.

Small Business Capital Can Help Grow Your Business

Small Business Capital Can Help Grow Your Business

Determining how much working capital you need to operate and expand your business can be challenging. You need to consider the type of business you’re in, your operating expenses, your sales cycle, and your plans for future growth. Once you have taken these factors into consideration, you need to figure out how much working capital you need to accomplish your goals. Not having enough working capital can prevent you from growing your business, and at worse, your business can go bankrupt. Knowing how much working capital you need is critical to the profitability of your business.

Small Business Capital
Working capital is simply the difference between assets and liabilities, and it’s a reflection on how efficient you are in running your business. Assets include bank accounts, inventory, real estate, and computers while liabilities include rent, debt payments, taxes, and the cost of materials and supplies. If your liabilities are more than your assets, then you will not have enough working capital to make payments on your liabilities. It can also make it hard for you to get a small business capital loan from a bank to get the money you need to grow your business. Banks prefer lending to businesses that have more assets than liabilities in addition to having high levels of working capital.

Small Business Capital Requirements for Businesses
All businesses require different levels of working capital. Businesses that need to carry physical inventory like retail stores, wholesale businesses and manufacturers have higher working capital requirements. This is because retailers and wholesalers need the working capital to purchase products to sell to their customers, while manufacturers need working capital to purchase the raw materials to make the products. Businesses that provide consulting, advertising, educational tutoring, or other intangible services have low working capital requirements because they do not have to produce and store inventory.

Business Expansion
If you want to grow your business but you don’t have enough working capital, then you will need to get a working capital loan. Banks are a traditional source of working capital, but they have tight lending requirements, which makes it difficult to get a loan. There are plenty of alternative online lenders like crowdfunding and peer-to-peer lending sites who can provide fast access to working capital if you do not meet bank loan qualifications. Other sources for small business capital include credit unions and the SBA. Even if you are not looking to expand your business, having plenty of working capital is vital if you want to stay in business.

4 Reasons You Need A Small Business Loan

4 Reasons You Need A Small Business Loan

Online small business loans can offer advantages for your business enterprise. You can use the money to buy new equipment, expand your services, or invest in a new technology that will give you a competitive advantage. Some believe that taking a loan can be risky, but if you know what you’re doing and apply the funds judiciously, it can take your business to greater heights.

You Need a Loan To Acquire A Bigger Location

Physical space will eventually become an issue as your business grows. You may need to get online small business loans to purchase more space or change to a bigger location. A larger working space will have an impact on your employees and their level of productivity. You also get to attract new customers when you move to a new location, especially if you moved to an area populated with people earning higher income.

Get Loans To Build Credit

You need to start applying for short term loans now if you plan to access large scale loans in the future. Most businesses that apply for large loans mostly don’t qualify because they don’t have a history of getting loans and repaying. Your repayment history counts for about 35% of your credit score, which means it is not about the money you are borrowing but how well and often you can pay back.

Your Business Requires Fresh Talent

The difference between you and your competitors might just be a new talent who brings in fresh ideas. As a small business, you can apply for online small business loans to hire fresh talent to your company. New talents come with new ideas, are ready to take greater risks, don’t engage in office politics, and they have a natural aptitude for technology.

There Is An Emergency

Your business just experienced a surprised emergency, and you don’t have the cash to deal with it. Taking a loan in this situation is a smart move as it can help reduce or eliminate the adverse effects of such situation. As a small business owner, you should always have money somewhere you can rely on in case of emergency.

Running a small business can be exciting and at the same time very challenging. You need to equip yourself with all the knowledge necessary to survive and beat the competition. Be smart. Apply for a loan if you need to change location, expand your business, get new equipment, build credit, or buy inventory.

4 Major Types of Business Loan Lenders

4 Major Types of Business Loan Lenders

What happens when you have a business idea that you think will penetrate the market and be the next big thing? You come up with a well-written business plan, get to know how much capital you need against your savings. Most times savings are insufficient to cater for the new business, which is why business loan lenders are available to cover such instances.

The rise in business ideas has seen many loan-lending institutions come up to cover the gap. However, each institution has their rules towards those who qualify for a loan. Here are some options:

Banks

Banks are a great starting point for those seeking to get financed. In most cases, those with already existing businesses with cash flow are more likely to get financing than start-ups. One of the things banks consider is, ensuring that there is a traceable account activity. Usually, banks will go through your bank statement and analyze the chances of you paying back the loan. Banks want an assurance that you can comfortably pay back the loan. For people who already have a running business, the balance sheet comes in handy during the application process. The reason for this is that banks will weigh what you owe people against the assets to see if the borrower is credit worthy.

Credit Unions

For Credit Unions, their loan standards are a bit less harsh compared to banks. Most credit unions are not-for-profit entities, and their sole purpose is offering financial services affordably for the community. Therefore, their interest rates on loans are lower than banks and anybody is eligible for membership.

Home Equity Line of Credit (HELOC)

HELOCs are another great way of getting business loans. For homeowners who have equity in the house, this is a great way of acquiring a loan to finance the business. On application of the loan, the house will act as collateral in case there is any default. They, however, are high risk because in any case, you default in payment; your house is at risk and could be taken. Only go for it when sure to repay the loan without so many challenges.

Leasing Companies

A great way of getting funds from business loan lenders is a leasing company. Scrutinize what equipment is not necessary at the moment and lease it to the enterprise. The advantage here is, through an agreement, you will lease the equipment to the company, and upon repaying the loan, they return the equipment back.

Finding Fast Funding for Your Small Business

Finding Fast Funding for Your Small Business

Getting Started

With adequate support and capital, an inspiring idea can evolve into a profitable business. Let’s look at five ways to get fast small business loans for your business: banks, the U.S. Small Business Administration, online alternative lenders, credit unions, and small business grants.

Banks

Talking to someone at a bank can help you to determine your eligibility for funding. You can also find out what documents are needed to apply for loans, and what the best options are for your situation. Locally owned banks have an interest in the economic development of the community. Therefore, they are a great place to start looking for funding a business. In fact, 43% of small business loans in the third quarter of 2016 came from community banks (Federal Deposit Insurance Corp., 2016). Although talking to a bank representative can be beneficial regardless of what stage of your business plan you are currently in, bank loans are given to businesses that already have strong credit and collateral. Therefore, other alternatives are a better option for fast small business loans for startups.

U.S. Small Business Administration

The SBA offers lenders a federal guarantee on small business loans. The lenders are often local community banks. The SBA makes it less risky for traditional banks to loan you the funds for your business, and it can help you find ideal rates. The application process for a business loan through the Small Business Administration can be taxing, but there are organizations that can help you through preparing and submitting all the necessary documentation.

Online Alternative Lenders

To avoid the strict lending policies of traditional banks, an increasing number of entrepreneurs are borrowing from online alternative lenders, where access to capital is less limited. Borrowers with bad credit who need fast cash can benefit from these funding sources. Although online alternative lenders often say “yes” when banks say “no,” the interest rates are higher. Still, they remain a reliable source for fast small business loans, especially for entrepreneurs with limited resources.

Credit Unions

Credit Unions can offer reasonable interests rates with loans backed by the SBA. As a member of a credit union, you can reap the benefits of personal relationships and name recognition. This is mainly because credit unions are often tied to the community through their cooperative style of operation. Furthermore, credit unions have increased their lending to small businesses over the years, unlike traditional banks.

Small Business Grants

The obvious benefit to funding your business using a grant is that the money does not have to be paid back. This is a more favorable option than the limited accessibility of funds offered by banks as well as the high interest rates offered by online alternative lenders. Non-profit organizations, government agencies, and corporations are the typical suppliers of small business grants. Some of these grants are aimed toward specific kinds of business owners such as women, minorities, or veterans. Although it can take much time and energy applying for grants, finding free money could be well worth it in the long run.
There are several approaches to funding a new startup or finding fast cash for a current business. Low credit usually means limited options for entrepreneurs. In addition to traditional banks there are credit unions who offer loans through the SBA. Online alternative lenders lend money regardless of credit ratings, but at higher interest rates. Still, perhaps it is always worthwhile to find and apply for grants because they do not require repayment. Business owners should explore their options and choose what best fits their needs.