Access to capital is a challenge for many small businesses. Nevertheless, there are more business loan options available today than ever before—provided small business owners spend the time to become savvier borrowers. This is not to say they need to become experts in everything small business finance, but they do need to become experts in securing capital for their businesses and taking steps to become better borrowers.
In general, lenders look for the answers to three questions:
- Can your business make timely loan payments?
- Will your business make timely loan payments?
- Should anything unexpected happen, will your business be able to continue making payments?
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While there is no guarantee, the key to improving the odds with any lender is your ability to answer those three questions favorably. Here are three tips that will help you do just that:
1. Get Intimate with Your Credit Profile.
One of the greatest misconceptions about a small business credit profile is not realizing that it even exists. Most small business owners are familiar with their personal credit score, but they aren’t aware they have a business credit profile, or of the role it plays when a lender evaluates your business’ creditworthiness.
Although your personal credit score will likely always be a part of the equation for many lenders, your business credit profile is an important metric lenders consider when evaluating your business loan application. Earlier this year, I spoke with Levi King, the CEO and co-founder of NAV—a free site offering business owners access to their business credit profiles and personal credit score—about the relationship between personal and business credit.
When I asked King about the first thing a business owner could do to strengthen their credit profile and become a better borrower he said, “That’s easy: be aware. Dive into your business credit profile and make sure you’re paying attention to what’s happening. You’d be surprised at what a difference monitoring your credit profile makes.”
While this might seem like an over-simplistic first step, he argued, “It might feel that way, but it really isn’t … the businesses [from a report published earlier this year by Nav] who regularly monitor their credit were 41 percent more likely to get approved when applying for a small business loan.”
That’s a pretty impressive increase. King suggested that it’s natural to make a difference in the places where you’re focusing. “Basically, attention drives behavior,” he said.
2. Take Action to Build a Stronger Profile.
This applies to both new and established businesses.
As a very new business, it’s important to establish your business credit profile. During that first year or two in business, it will be difficult to walk into a bank and find success. Even most online lenders are looking for at least a year in business to show a demonstrated track record. Nevertheless, that doesn’t mean there aren’t opportunities to build a strong credit profile.
Establishing trade credit relationships (or payment terms) with your suppliers and vendors is one of the easiest ways to start doing this. Although 30- or 60-day payment terms might not be the same thing as a $50,000 term loan at the bank, your good credit practices with your vendors demonstrates your ability to manage credit. Having a responsible history on your business credit profile shows a potential lender that you're likely to make timely repayments on a loan once you’ve established a track record.
A business credit card is another way to establish a strong business credit profile. This suggestion also implies that you avoid using your personal credit (including personal credit cards) as much as possible because they don’t help you build your business credit. Using business credit for business purposes and personal credit for personal purposes will help you become a better small business borrower.
The same advice applies to established organizations that want to improve their profile. I’m not an advocate of borrowing just to borrow, but I am in favor of borrowing responsibly when it makes sense. Over the years I’ve spoken with a number of business owners who seem proud of the fact that they’ve never had to borrow. While this seems praiseworthy, it may handicap their ability to access borrowed capital should they need extra cash to expand and take advantage of an opportunity to capture additional profits. Getting a loan to purchase new machinery or quick-turnaround inventory at a discount makes sense when they’ll yield high returns.
Responsibly using business credit, when it makes sense, can help build the kind of track record lenders want to see when they evaluate a loan application. Avoiding credit altogether will make it difficult for a lender to judge what your business will do tomorrow based upon how it’s handled credit in the past.
3. Dive into the Numbers
Most small business owners don’t jump into their entrepreneurial dream because they’re excited about bookkeeping. Yet, whether you do your own accounting, or hire/outsource it out to someone else, understanding exactly what’s happening from a financial perspective is an important part of running a business. And this knowledge will help you be a better borrower.
I once spoke with a lender who declared, “If I can tell more about the business from looking at the financial documents than the business owner, I’m not likely to offer them a loan.”
There are a few options to help you dive deeper into the financial health of your business. Depending on how hands-on you wish to be you can take courses online or at a local community college, or work with an expert. A good bookkeeper, accountant, or CPA should be able to explain what he or she is doing and what they see happening in your business too.
Armed with this understanding, you’ll be in a better position to evaluate your loan options and determine which might be the best fit for your business. A few metrics to have in your back pocket are the total cost of the loan, the rate, and the fees. These figures will help you understand when short-term financing makes the most sense or when your business might need longer-term financing to meet your business loan goals.
Although following these tips isn’t a guarantee of success, they will likely make it possible for you to enjoy more options and determine which small business loan makes the most sense for your business. Becoming a better small business borrower will often put your application on the top of the pile when a loan officer is making decisions regarding which business he or she will approve and which they won’t.