The key thing to know about small business bank loans is that you are judged on your credit history. If you are starting a new business, the only point of reference that the bank has is your personal banking history.
Even a good personal history isn’t enough to give banks an idea of how responsible you are in business.
A business plan is a must
If you have a good credit history, before you approach the bank you will need a business plan and security before the banks will consider the application. However, the chances of success in raising money from commercial banks without collateral are very low.
How to fund the purchase of a business through a commercial bank
When buying a business, the first option usually is to contact traditional banks for finance. It all depends on the type of business and whether it is a new start-up or the taking over of an existing business.
Banks need some deposit as well as collateral. The deposit will depend on the type of business and the credit worthiness of the buyer.
The deposit can be as high as 50% of the purchase price. A finance deal can also be structured – stock can be financed with an overdraft and equipment either with a lease agreement or a hire purchase agreement. Financial institutions are not keen to finance goodwill.
How Bank Financing works
Banks take the following in to account when considering the financing of a business:
- Trading history of the business such as – How long in operation, how many previous owners, products to be sold, where located, customer base, reliability of suppliers, competition and lease agreement.
- The assets – equipment belonging to the business – will be used as collateral and thus the banks, as well as the buyer, must ensure that these are in good working order. As mentioned above, if the assets are new, these can be financed with a lease or hire purchase.
- Debtors and stock may be ceded to the bank as part of the collateral and thus the bank will need at least monthly certified debtors’ schedules.
- Every cent that any financial provider lent to a borrower must be repaid, plus interest on the capital. Because of this the banks will have to ensure that the business is profitable and will be able to meet the monthly repayments as well as be able to continue to provide an income for the owner.
- As a business and the owner are closely linked, the banks will ensure that the operator has the necessary skills and knowledge to run the type of business being bought. Whenever finance is applied for, the bank will need surety for the money lent. They must ensure that, should the business not succeed, the borrower will be responsible to repay the monies lent.
What is Debt Financing?
Debt financing is money that you borrow to run your business. Debt financing is simply money that you borrow to run your business. You can think of debt financing as being divided into two categories, based on the type of loan you are seeking: long term debt financing and short term debt financing.
Long Term Debt
Financing usually applies to assets your business is purchasing, such as equipment, buildings, land, or machinery. With long term debt financing, the scheduled repayment of the loan and the estimated useful life of the assets extends over more than one year.
Short Term Debt
Financing usually applies to money needed for the day-to-day operations of the business, such as purchasing inventory, supplies, or paying the wages of employees. Short term financing is referred to as an operating loan or short term loan because scheduled repayment takes place in less than one year. A line of credit is an example of short term debt financing.
Why do banks want signed contracts before granting a loan?
Banks loan money to small businesses that have a proven track record to showing that they are a good risk. Bankers also like things that can be verified, such as reference to a commitment such as a customer contract – if they can see a signed copy of a contract and confirm it with the customer; it helps provide the security that the bank is looking for.
How to get signed contracts
Promote your child transportation business to parents through schools, day care centres and churches. Develop a flier or brochure as well as a website for parents to be able to review your information. State your qualifications, including the fact that you have screened all drivers and have safe, reliable vehicles. Use testimonials and references to gain the trust of potential customers.
Don’t give up
Even if you have been rejected by the bank, don’t give up. Look for ways to mitigate the risk. You have time before the 2011 school year to find new clients and get signed contracts. With these contracts go back to the banks and try again. Ensure that you have a business plan to show them. As the business has been in operation for two years, you will also have a track record of success, which will serve as another tool to confirm that the business is worthy of further investment.
Make sure every aspect of the business is in place
When do approach the bank or other investors, you must have completed “due diligence”. A due diligence is an information-gathering and assessment process whereby a prospective financer looks at all aspects of your business, from top to bottom and inside out.
They’ll be checking the financials, profits, tax issues, projections, shareholders, staff issues, property and location, assets, debtors and creditors, the market to determine how viable the business is and whether it is worth investing in.
Secure liability insurance to cover your vehicles, your employees, and the children you will be transporting. Check that the business complies with government regulations and requirements.
What are the factors that may cause an application for funding to be rejected by a bank?
Banks consider affordability, they also place great emphasis on a comprehensive breakdown of the financial plan and the entrepreneur’s own contribution.Conflicting information on the business plan and supporting information calls the plan into question and finally, a poor credit rating does not bode well at all.