It can be daunting setting up a business when finance is available, let alone one where you need outside financial assistance. We can only imagine the number of people who have had great small business ideas but failed to follow them through. In addition, the thought of sitting in front of a bank manager, small business lender, or third-party finance company, and explaining your idea, can be intimidating. When applying for small business loans, splitting the process down into more manageable chunks is better.
This article will look at the various actions you can take when applying for a small business loan. These measures will give you a head start and allow you to focus entirely on your business idea and its long-term potential.
Research small business loans
If you asked anybody what a small business loan involved, many would probably keep it brief and simple. Finance for your business. While a perfect summary, it is a little naïve not to be aware of the pros and cons of small business loans before you make an application.
You must at least have a basic knowledge of issues such as:-
- Interest rates
- Loan duration
- Collateral
- Cash flow
Applicants who turn up with a “good business idea” but little knowledge of how small business loans work will likely struggle to get past the first five minutes. On the other hand, those who have researched small business finance will be able to have a helpful dialogue with a potential lender. So how can we best describe this process?
It comes down to confidence, pure and simple. Suppose the lender has faith in how you have researched the subject and your business plan projections for the future; that is half the battle. Whatever type of small business you are setting up, you must be entirely focused on growing the business. If you have to “learn on the job” regarding small business loans, then you are using up valuable time on areas that should already have been researched in depth.
Research different types of finance
While more often than not, the focus tends to be on “small business loans”, there are numerous different types of finance available. For example, you may be looking to start a business, refinance an existing business, or expand your current operations. Before we look at the different types of small business finance available, it is vital to cover the subject of underfunding and overfunding.
If you apply for more finance than your business needs, this will not be looked on favourably by lenders. They will question why you are taking on additional debt, which is not necessarily required. In some cases, this may see your application rejected.
On the flip side of the coin, underfunding is as much a sin as overfunding. It is all good and well trying to start on a relatively small budget, but if you underplay the funding required, the business may not even get off the ground. Therefore, it would be best to ask for a “reasonable” level of finance and detail how the funds will be spent. Please do not assume that applying for less capital than you require is positive; it certainly is not.
We will now take a look at the various types of business finance available:-
Term loan
This is the traditional small business loan where you receive a lump sum payment which is paid off monthly, with interest. The duration of the term loan will impact the interest rate and the overall funds repaid. Trying to repay these funds too quickly is as dangerous as overextending the term and paying additional interest. Find a balance!
Short-term finance
If you have cash flow issues, then short-term finance can be an option with the funds available relatively quickly. However, depending on your situation, you will likely pay a premium on the interest rate, and the loan duration would be significantly reduced.
Line of credit
Business lines of credit tend to be more associated with recognised companies with a track record. This is an arrangement whereby a predetermined level of maximum finance will be available as and when required. However, the customer will only pay interest on the portion of finance they use, not the maximum level agreed.
Asset finance
While asset finance is again generally associated with a more recognised business, as opposed to a new business, there are some variations. For example, as a director/business owner, you may be able to put up collateral against a business loan. In the event of default, the collateral in question will be sold and the outstanding funds repaid.
This is a handy means of raising business finance where the individual has a challenging credit history.
Prepare your finances
The vast majority of people starting a new business will likely know months (if not years) before the start date. Consequently, this will give you time in which to put your finances in order. This generally involves reviewing your credit report/credit score and trying to make improvements where possible.
There are many issues to cover with regards to the preparation of your finances, pre-small business loan application, which include:-
- Avoid late payments
- Monitor your credit utilisation ratio
- Live within your means
- Correct errors on your credit report
It is also essential that you can actively demonstrate your financial management skills. For example, if you have a credit card, it will be helpful to see the balance repaid at the end of each month. Unfortunately, many people fall into the trap of believing that the fewer types of finance they have available, the higher their credit rating. Why might this not be the case?
To demonstrate your financial management skills, you will need to show how you handle credit card finance, personal loans, and other types of debt. Something as simple as paying your mobile phone bill on time won’t have a massive impact on your credit rating. However, missed payments will have a negative effect. Put yourself in the shoes of a lender; if you apply for business finance in your name but have no credit history, how can they rate your financial management skills?
Prepare your business plan
Entrepreneurs looking to apply for small business loans tend to retain many of their business ideas in their heads. When preparing your small business plan, the key is to get as much information down on paper as possible. You need to sell your business idea and your small business loan application, showing you fully understand the pros, cons, and challenges ahead.
Some of the critical factors for your business plan include:-
- Clearly defining your business idea
- Knowing your market
- Knowing your clients
- Understanding business finance
- Future plans
- Compare and contrast with rivals
You may have the best business idea in the world, but if you cannot explain the concept to a third party, what chance do you have of receiving finance?
The best way to look at your business plan is a means of explaining your business in the most basic manner. Details that you think would be taken for granted may not have even entered the mind of those considering your small business loan. While there is a difference between flooding somebody with too much information and valuable factual data, it is perhaps more dangerous to starve them of detail.
Unfortunately, many people assume that once they have written down their business plan, the hard part is over. But, in many ways, more complex challenges lay ahead! You should be prepared to answer some thought-provoking and sometimes uncomfortable questions about your business plan and loan application. In reality, there is no way that you can pre-empt every question that a lender may ask you. However, if you have a deep-seated knowledge of your business, markets, and clients, then you should be able to answer the vast majority of questions.
The days when an eye-catching colourful presentation pack blinded small business lenders are long gone. Instead, they want condensed factual information.
Choose the right lender
Whether you are a small, medium, or large size business, you will stand the best chance of raising finance if you approach the “right” type of lender for your business.
There are numerous different areas of finance in which companies specialise, including:-
- Small business
- Technology businesses
- Service businesses
- Manufacturers
- Short-term loans
- Long-term loans
- Asset-backed loans
In reality, this list is endless, but the different areas listed above will give you an idea. For example, if you were looking to start a technology company, there would be no point approaching a lender who specialised in manufacturing companies.
Many successful businesses will require additional finance for a variety of reasons further down the line. Therefore, rather than seeing this application as a one-off event, if successful, this could be the start of a long-term financial relationship. One thing is for sure; success makes a business very attractive to lenders!
Applying for small business finance
Now that you have researched small-business loans, investigated the different types of finance, pre-prepared your finances, completed your business plan, and identified the suitable lenders, it’s time to apply! However, don’t assume all of the hard work is over just yet!
Even though lenders will gather much of the basic information they require from online forms, they will still need to review your business plan. When sending in your business plan, it should be accompanied by a courteous and informative email/covering letter. This is not the time to take your foot off the gas, to become complacent, or assume the hard work has been done.
Once you have supplied your chosen lender with the required information this is the difficult time, when you need to sit back and wait. Many companies will approve small business loans at this stage, while others may require a face-to-face/telephone discussion. If this is the case, see it as a chance to shine and promote your business idea with vigour. Good luck!
Summary
After reading the above article, you will likely be left with one outstanding impression; the most challenging part of applying for a small business loan is the preparation. Yes, selling your business face-to-face or on the telephone can be difficult, but all of the preparation work/research has been completed by that stage. Therefore, you must remain focused to the end, stay optimistic and ensure that every detail of your business idea in your head is portrayed to the relevant third parties.
