Lending Lessons

Before you apply for a business loan, there are several steps you should take to increase the likelihood that your business will be perceived as a good lending risk. Understanding the process lending officers use to evaluate loan applications will help.

Lending institutions are concerned above all else with their risk exposure; what are the chances they will lose money on you. Secondarily, they hope to make money by lending you money. Their criteria in making these determinations are based on what is known as “the four Cs of lending.”

The four Cs of lending

• Character: This C could also stand for credit, as lending institutions are concerned with the applicant’s credit history, prior delinquencies, credit utilization and debt-to-income ration. However, personal character is also a consideration. A prospective borrower with a criminal history, personal instability or shady associations will not be deemed a good lending risk.

• Capacity: Does the borrower show positive revenue that could support additional debt? Will the borrower’s projected revenue enable repayment of the loan? If the application is for a newer business with a limited record of accomplishment, lending officers will look more favorably on a franchisee’s applications if the franchise as a whole has a good record.

• Capital: What assets has the applicant accrued to date? Lending officers are most enthusiastic about cash assets, but also consider real estate, manufacturing or heavy equipment, inventory and accounts receivables retail or restaurant fixtures. In doing so, the monetary value they place on your assets will reflect a discounted market value because, with the exception of cash assets, they will have depreciated, and will cost the lender money to liquidate. Moreover, banks are in the business of making money from lending money, not from liquidating parking lots or used backhoes.

• Collateral: That applicants have assets is important to lenders; that applicants know they will lose their assets if they default on loans is even more important. Lending is based on incentives, and nothing incentivizes repayment like the anticipated pain of losing a business or family home. Lenders are not willing to shoulder all the risk themselves; borrowers must be willing to place their assets at risk, too.

Evaluate your own borrowing suitability with the same cool, objective judgment used by lending officers. Even if you do not plan to apply for a loan in the near future, use the interim period to prepare.

•    Clear any errors from your credit report and pay down as much as possible.
•    Minimize overhead and maximize accounts receivables.
•    Accrue assets.
•    Determine your personal level of risk adversity and which of your assets are the most suitable collateral.