For Small Business Owners & the Self-Employed

Insider Secret:

If You Need a Loan, Give Good Answers to These 4 Questions

If you want to have a serious shot at getting the money you need, focus on these four factors

by Alex Goumakos, CPA

Too many small business owners waste their time and effort filling out loan applications, submitting proposals and reaching out to numerous potential lenders and investors when in reality---they're not really prepared yet for getting the money they need.

For example, last month four small business owners I know asked me to either invest money in their company or to introduce them to a few bankers and investors I know.

After asking four simple questions, I had to respectfully say "no" to three of them.

Here are the questions I asked:

1. How’s your personal financial situation?

If you own a relatively new business (under three years old) and it doesn’t have substantial earnings or unencumbered assets a lender wants, be prepared for the focus to shift to your personal assets and credit history.

No lender or investor is going make a loan or invest money in a new company that doesn't have a decent earnings record or valuable assets it can pledge as collateral.

The good news is, not all lenders and investors are stringent when it comes to your personal credit and financial condition. In today's world, millions of people get loans with p'oor c'redit and negligible assets.

Of course, if you manage to find a lender or investor willing to work with your less-than-exemplary personal credit, expect to pay dearly in the form of high interest expense, commitment fees, loss of ownership percentage and/or financial and operating restrictions.

If you can wait it out, definitely take the time to improve your credit before applying for a loan.

Bad credit can be fixed. One businesswoman I know with several charge-offs on her credit, managed to get them all deleted within 12 months simply by sending dispute letters to the credit reporting agencies and collection agencies.

Or, if your credit isn't good and you can swing it, get a co-signor for the loan.

Incidentally, two of the four small business owners who asked me to help them had in fact new businesses, no major assets and p'oor p'ersonal c'redit.

2. What do you need the money for?

When applying for a loan, be prepared to provide exact and explicit details as to why you need the money. If your loan request is vague or speculative in any way, your loan will be denied - even if you have good credit.

Quantify the reasons why you need a loan. Instead of saying, “I need the money for working capital or to pay bills” say, “I need $25,000 to renovate our showroom so that we can accommodate additional customers and increase our sales by $125,000 per year. Here's how the loan will help me achieve this goal..."

And whatever you do, don’t say that you need the money because of mistakes caused by partners, employees, vendors or anybody else. Nothing will turn off a lender or investor quicker than if you start bitching about a partner or employee who took too much money or who didn’t pay the bills he or she was supposed to.

Lenders and investors like stability. Besides, if you start blaming others for your company’s predicament, you are in effect, undermining your own managerial ability.

Surprisingly, two of the small business owners who asked for my help, couldn’t give me a valid and explicit purpose as to why they needed the money.

3. Do you have a business plan?

When I asked this question, three of the four small business owners said no.

The fact is, many small business owners (even some highly successful ones) don’t have business plans.

However, if you’re looking for money, a business plan is a requirement, not an option.

A business plan does not have to be complicated. But at a minimum, it should contain the following information:

• The Basic Elements including business description, management, target market, customers, competition, positioning, distribution and marketing.

• Financial Information including current financial statements (balance sheet and income statement), income tax returns, forecasts and anticipated cash flows. Some lenders or investors may want to see personal information as well.

Whatever you do don't go overboard on your business plan because not everybody will take the time to read all of it. Instead, focus on the executive summary and your financial data.

4. Do you have any problems paying the bills?

Lenders and investors don't like to hear that a company can’t pay its bills (especially if taxes and trade accounts are involved).

Of all the criteria used to determine a company’s eligibility for a loan - liquidity - a company’s ability to pay its bills when they become due - is one of the most important.

Here are some other highly important financial criteria that lenders and investors will be taking a close look at:

• Consistent profitability - One of the first things a lender will do is determine if your company can pay back the loan. If your company can’t support repayment of the loan, you won’t get it, period.
• Financial health – The principle method used to measure financial health is the debt-to-equity ratio (total debt divided by total equity). The traditional standard limit is 2 to 1. A lower limit indicates a greater level of overall health, while a higher ratio will easily disqualify you from a loan
• Comparative industry data – Your company’s financial information will be compared to others just like it in the same industry.

When I probed the small business owners about whether they had any trouble paying their bills, only one said no emphatically. The others gave me the distinct feeling that their money woes were signs of deeper rooted issues.

If there are severe and chronic cash shortages in your company, you need to find the underlying reasons why. While nobody likes to admit defeat, throwing money at a recurring problem is like committing business suicide. Know when it's time to cut your losses.

Keep in mind that no amount of money will solve the following problems:

• a bad business concept
• an incorrect price
• poor customer service
• mismanagement
• bad location
• too many competitors offering the same products at the same prices
• lack of a strong competitive advantage
• an owner who withdraws excessive amounts of money

If you need money, it's important that you make a good impression by putting your company in the best possible financial light. To do this, you need to make sure you:

1. Have good personal credit or can get a co-signor who does.
2. Can explain in exact details how you intend on using the money.
3. Have a business plan with all required financial information
4. Can pay your bills (including the loan payments) as they become due