Bite-Sized Financial Education for Small Business Owners Seeking Capital
Looking for money to help your business grow? Lenders across the board will tell you to be familiar with the 5 C’s of funding: costs, collateral, credit, capital and capacity.
Costs refer to the “project costs,” or the detailed expenses related to growing your business. This can refer to working capital needs for rent, staffing & benefits, utility expenses, shipping costs, property taxes, office supplies, and any other costs related to the day-to-day operations of your business. Working capital can also be used to cover current costs while waiting for payment from your customers for work already completed. Another type of project cost is furniture, fixtures & equipment, which includes any machinery needed to create or package your product, or any other movable items used in your business location. Project costs also might include the purchase of real estate, either in the purchase of an existing building or land, or construction costs related to building the business location of your dreams.
Before approaching your bank or community lender, create your business wish list and consider in detail what the funding will allow you to accomplish. Are you looking to hire additional help? If so, what will you pay them? Will you offer benefits? Don’t forget to account for employment taxes. Consider safety training, uniforms, and other ancillary costs as well.
Lenders will expect you to have done your research. Their consideration of your preparedness goes a long way toward approval, and allows them to be more flexible while working with you.
Collateral refers to the security pledged by the borrower as insurance against a loss for the lender. This can take the form of equity, property, cash reserves, equipment, or any other item of value for which the lender can claim ownership in the event of a loan default. Often, as in the case of real estate lending, the collateral is created with the loan funds.
When seeking a loan, you’ll want to be prepared to match dollar for dollar your collateral, or business asset value, to the amount of the loan request. The collateral accepted by a lender can vary widely, but often a lender will require enough to cover the amount of the loan and a little extra. In the event that collateral is not available, personal guarantees may be acceptable. There are even certain SBA-programs that will provide a government guarantee for a portion of the loan, without the need for the borrower to cover that amount with collateral.
Although finding collateral can often be an obstacle for a struggling small business owner, lenders will rarely take the on the risk of losing money if the borrower defaults. It is important to show that you are willing to take on the risk of your business by providing a hedge against a loss. Be wary of private lenders that require little to no collateral, as they will often take advantage with sky-high interest rates and hidden fees. Coming up short on business collateral? Look at pledging personal assets, such as a vehicle, investment funds, or other property.
Credit is a buzzword these days, as many home and business owners faced the music of ruined credit scores after the recession. Those with little to no credit experienced difficulty building it from scratch when lenders tightened up their standards and raised the bar, excluding borrowers with low to moderate credit scores from consideration.
Building the credit of a business is a long-term priority, and something to consider from the earliest stages. For most small business owners, personal credit scores of all borrowers are what most lenders examine when considering a business capital loan. Missed or late payments, past defaults, bankruptcies and maxed out credit cards are all warning signs that show up on a credit report and can lower the overall score of the applicant. Here’s a tip to boost your score: Pay all revolving debts, such as credit cards, and installation debts, such as loans, on time each month. This accounts for 35% of your credit score.
Every individual is entitled to a free credit report each year, and your personal credit report should be pulled and examined on an annual basis for accuracy. Mistakes can sometimes be found and corrected through the credit bureaus before they hurt your credit score. Poor credit can be repaired, and there are many non-profits that offer services to assist this pursuit.
Capital is the amount of money your business has accumulated as a result of the production of goods or services. It is this need for capital reserves that prevents many start-ups from finding the funding they need to grow, as they have not yet had time to build up profits.
Just as you need a down payment for a house, a small business loan will also require a down payment, called a capital or equity injection. Planning on growing your business? Here’s a tip: Start saving your money today. Be prepared for your small business to put up 15-20% of the requested loan amount.
Lenders and investors will expect you to have taken personal risk (i.e. used personal funds) to establish the business before asking them to commit to funding. This is because when you have a significant personal investment in the business, you are more likely to do everything in your power to make the business successful.
Capacity refers to the ability of the business to grow and succeed, or more specifically, the ability of the business to repay debts and continue to profit. Most lenders will refrain from lending to a business that is not growing and cannot service the debt they currently have. They will analyze the financial information to determine whether the borrowed capital will increase the profits, and if so, whether that will be enough to repay the debt plus interest long-term. If the business is currently struggling, borrowing funds may seem like a life preserver, but could actually spell disaster down the road.
In addition to examining financial information for the business, lenders will consider the years of experience that you have in your field, as well as your knowledge of business strategies. Navigating the road to profit is difficult for any business owner, so industry experience is essential to success. Here’s a tip: Often small business owners wear many hats, but keep in mind that you don’t have to know it all as long as you have a team to support you. Include a business coach and professionals that can fill in the gaps in your knowledge. There are several non-profits, such as BCL of Texas, that can teach you the business skills you need to get your business off and running.
To schedule your free session with a business coach at BCL of Texas, email firstname.lastname@example.org, call (512)912-9191 today, or go to http://bcloftexas.org/ .