There is an old saying that banks only give money to companies that don’t need it. This is partially true because the low interest they charge means banks can’t take much risk when it comes to lending money. They are not equity investors, such as angels and venture capitalists, who expect a huge payday down the line.
Instead, a bank’s return is usually limited to single-digit percentage rates, so they’re more selective as to whom they give a loan. With that in mind, here’s how small business owners can increase their chances of getting the loans they need by following these five simple tips.
1. First, Build a Real Relationship
It is very difficult for any small business owner to walk up to someone to ask for assistance. People consistently will help only those they know, like and trust. Real relationships need to be built and cultivated over a long period of time.
This is especially true with banks. Take time to meet the people at a few institutions, and update them about your business at least twice a year before applying for a loan. Establishing a trustful relationship will make whatever financial documents and projections that are presented much more believable.
2. Know the Numbers
Present profit and loss, balance sheets and cash flow statements for the past three years. Remember that banks are data-driven, and numbers help them get comfortable with any risk. They always depend on the past to predict the future.
These statements should have enough detail to show an analysis of how cost of goods, gross margin, overhead and net profit have changed over time, and what those changes mean for the company moving forward. Understand what is behind each individual number and any fluctuation in it.
Be confident about what is presented by practicing the presentation several times in front of your company’s accountant. Have him or her ask tough questions about the data. Always repeat the words throughout the presentation that “this loan is very low-risk.”
3. Explain How You Made Your Forecasts
Present a prediction of where the company will be over the next three years. Never present aggressive forecasts that defy belief. If no company has achieved the type of results before that are being presented, it is unlikely that bankers will be convinced that your small business will be the first to do it.
Build this forecast from the bottom up, not the top down, through simple multiplication. For example, know the time and cost of driving customer purchases and the gross profit on each sale. Understand the lifetime value (LTV) of a customer. Show where the leverage for increasing profit is and how the company will make money as the business grows in size.
Make sure that the forecasts are conservative by increasing expected expenses by 25% and reducing forecasted revenue growth by 50%. Under this scenario, can the company still make money and repay the bank? Don’t present anything that can’t be confidentially delivered based on the current facts that are known.
4. Show How They Get Their Money Back
The bank’s biggest concern is, “how will this company pay the loan back if things do not go as planned?” Show the cash flow that the business will generate under multiple forecasted sales and market scenarios as described above where loan payback is easy. Since all banks want to manage downside risk, the bank will particularly pay attention to the worst case scenario.
5. Personally Guarantee the Loan
While this is not a comfortable thing to do for a small business owner, be the first to suggest it to the bank. They may require it anyways to provide the loan. But if you bring it up first, this shows that you are willing to stand behind the risk that the bank is assuming. If appropriate, remind the bankers of a personal track record of previous loan repayments, both personal or corporate, to this or other banks. Again, any past track record of repayment will make the bank’s decision easier.
Talk to several national and community banks, since they all have different sets of guidelines for their targeted loan portfolio. Remember that a “no” doesn’t mean that’s the answer forever. It may just be a “no” for now. Ask the banker what exactly has to change in the company in order to get the loan in the future.