Bank lending is picking up for small businesses. But you’ll have a much easier time getting a loan if you’ve taken steps to improve your company’s credit profile ahead of time
Applying for a business loan the past few years made many entrepreneurs feel like Sisyphus — the character from Greek mythology who was doomed to keep rolling a boulder up a hill, only to watch it roll back down when it reached the top.
But that’s changing. Bank lending is slowly growing. In the Federal Reserve Board’s April 2014 survey of senior loan officers, nearly 10 percent of respondents said standards for approving loan applications for small businesses had eased somewhat in the past three months. All types of capital seems to be flowing more easily to businesses. A Federal Reserve Bank of Atlanta survey of small businesses in the Southeast shows that 60 percent received all or most of the funding they requested in the first quarter of 2014, up 20 percentage points from the first quarter of 2013.
Lenders are still cautious, though, and you’ll have a much easier time getting a loan if you have maximized your business credit score ahead of time and taken other steps to improve your company’s credit profile.
These five moves will help you improve your chances of getting a loan.
1. Establish separate business credit. If you run a business as a sole proprietor, under a Social Security number, it will be hard for creditors to determine where your finances end and the business’s begin.
To establish separate business credit, set up a business checking account and open a business credit card through an institution that offers the type of loans you may need in the future, says Jim Salmon, vice president of business services for Navy Federal Credit Union. Opening a credit card through that institution makes it easy for your lender to observe how you handle your credit, he says. “What you’re really trying to do is build a relationship with a financial institution,” he says.
Meanwhile, make sure that all business credit cards you use can be tracked by major credit bureaus. The most important credit rating bureau for businesses is D&B Credibility. To get on its radar, you’ll need to get what is known as a DUNS number.
Also make sure that Experian and Equifax track your business’s credit. To that end, Experian suggests that businesses incorporate or form a limited liability company (LLC), obtain a federal Employer Identification Number, and set up a phone line in the business’s name with a listed phone number. Make sure you pay your bills on time and try to keep your balance at 20-30 percent of your credit limit, Experian recommends.
2. Perfect your personal credit score. Yes, bankers and other lenders expect you to separate your personal and business finances, but they still care how you manage your own credit. Unless you run a very substantial-sized small business, they will probably ask you to sign a personal guarantee on any loans you take out.
“Your personal score is important,” says Darren Schulman, chief operating officer of AmeriMerchant, an alternative lender with offices in New York City and Los Angeles. Take steps to safeguard it. “Personally, I wouldn’t go over 50 percent of the line of credit on your credit card — and pay it off monthly,” he advises.
3. Write a business plan. Bankers will be more likely to trust your projections for the business’s sales and profits if there is a clear rationale behind them. Keep it short and well-focused. “It doesn’t have to be that formal a document,” says Cliff Horwitz, partner in Newport Board Group LLC, a business advisory firm based in Orange County, California.
There is nothing in the world that makes a lender more comfortable and more confident than good, accurate, reliable information.
|— Cliff Horwitz|
Newport Board Group
Writing a business plan will help you make the kind of strategic decisions that lead to a healthier business, which will benefit both you and your lender. “Most budding entrepreneurs don’t realize that the greatest beneficiary of writing the business plan is the author, not the reader,” says Horwitz, also a seasoned entrepreneur. “If they have thought through what the evolution of the business is going to be and how day-to-day operational issues are going to be addressed, that provides the would-be lender or funding source with a level of comfort that [comes from] someone who knows what they are doing.”
Before you meet with a lender, make sure you can confidently explain how you will use any funds you secure and why doing that makes sense. “For example, if you plan to use the capital for a specific project, what is the return on that project and over what time period?” says Daniel DeMeo, CEO of CAN Capital, a New York City-based provider of business loans and merchant cash advances. Thinking this through will also help you make better decisions about whether you need short-term or long-term financing, he says.
4. Improve your record keeping. Get help from your accountant or hire a part-time chief financial officer to create accurate records of the business’s finances. A high credit score can’t counteract sloppy books. “If there is one drum I beat daily, it is quality of information,” says Horwitz. “There is nothing in the world that makes a lender more comfortable and more confident than good, accurate, reliable information.”
Take an accounting course if you haven’t already, advises Schulman. Lenders will pay more attention to your application if you can talk intelligently about the financials when you meet in person — and you’ll make more-informed decisions in using your credit.
What trips people up is taking on too much debt — and believing your own story at all times.
|— Darren Schulman|
“Every business is its own little economy,” Schulman says. “You are going to have ups and downs. If things are slow, you need to understand why and adjust things accordingly.” Otherwise, you’re likely to run into credit problems. “What trips people up is taking on too much debt — and believing your own story at all times,” says Schulman.
5. Conquer cash flow. Entrepreneurs often end up borrowing because they haven’t allowed enough time for payments from customers to arrive and lack cash in reserve to cover their expenses, says Salmon.
“Some businesses can go through explosive growth and their accounts receivable might be mismatched with their accounts payable,” says Salmon. “If people are paying them slowly, they might be paying their vendors too quickly. They need to be able to recognize that.”
When revenues are climbing, it’s usually a good time to win more credit — but only if you handle your finances wisely.