When you are getting a business off the ground without any outside financing or business loan can be an arduous task, especially for SMEs with little or no financial awareness. If you want to grow your business, you need to hire new employees, invest in the supply chain, and maintain day-to-day operations.
A business loan enables you to get from point A to point B, providing the much-needed capital to kick start your journey. However, these loans are infamous for being hard to get; and, if anything goes south, you may end up losing the collateral put up for the loan.
When you are having a clear idea about the lending process, the types of loans available and the lender’s prerequisites are considered critical for any business.
Understanding business requirements:
Every business needs and requirements is very subjective. It means that before you approach lenders, it is necessary to understand the purpose and requirement of the loan. As in, why do you want the loan, and how are you going to use it. However, good debt creates value in the long term. In contrast, lousy debt only pushes the business towards financial distress. Eventually, it leads to bankruptcy or closure of the business.
Also, by being over-leveraged or under-leveraged, it might have long term ramifications for the business. It can affect the financial health of the company. It is also essential to assess the purpose, amount and timing of a business loan before you start reaching out to lenders.
Understanding the types of loans available for small businesses:
When you are applying for a business loan, it can be an emotionally draining and time-consuming process.
However, it is helpful to understand the types of loans available in the market:
Term Loan: A term loan is one of the most mature and preferred forms of SME loans. In the case of a term loan, the borrower gets a lump sum amount. You are required to repay the amount in instalments over the borrowing time period, typically six months to five years. However, some lending organisations are given long-term loans against collateral like land, buildings, etc.
Cash Credit Facility: It is also known as a short-term source of financing. The borrowers can quickly draw against a limit and can repay as payment hits their account. It is also primarily used for short term requirements. However, many lending organisations also provide credit cash facilities to SME entrepreneurs against collaterals.
Invoice Discounting: According to the RBI report, financial institution credit to MSME jumped 9.5% at the end of September 2018 from the previous year to ₹9.5 trillion. The MSMEs across India still faces challenges to meet their daily capital needs. The recent liquidity crisis has prompted a 30-40% increase in invoice discounting enquiries, enabling fintech firms to discount bills worth approximately ₹1000 crore a month. However, with the help of this new age discounting, empowers entrepreneurs to access working capital by discounting unpaid invoices in a quicker and faster manner before their due date.
Government-backed Initiatives: To build a robust Eco-system for fostering startups, the Government has also launched several startup initiatives like the MSME Business Loan in 59 Minutes, Pradhan Mantri MUDRA Yojana, Startup India, eBiz portal, and more to catalyse the growth of small businesses.
Conduct research on available lenders and their vigilance process:
Many lenders are willing to provide working capital loans to small businesses, and each one of them has different terms and conditions to get a loan sanctioned — for example, direct online lenders, large commercial banks, P2P lending sites, etc.
Hence, just like as a rule of thumb, do thorough research on the terms and requirements of the lender online and offline to find the best offers. Understand whether it fits your business needs and then approach the lender to make the process easier.
Understand how the lender will review your credit and risk profile:
Some lenders eventually decide on whether or not to provide a loan based on the borrower’s credit and risk profile. However, any financial institution will evaluate your eligibility based on the parameters given below:
Credit Score: The lenders will also evaluate your creditworthiness for a business loan based on credit bureau scores and your credit history. However, having a credit score above 750 will aid in getting loans approved faster.
Outstanding loans and cash flow: While you are sanctioning a loan, the lenders will scrutinise all outstanding loans and debts to understand the company’s ability to repay the loan.
Collateral: The lenders will also evaluate the physical assets and cash flows or receivables to determine whether there is comfort if there is a default.
Vintage: Some organizations that have vintage in their respective industry tend to get loans quickly.
Investors in the company: The Organisations funded by venture capital investors or prominent institutional investors have an edge as corporate governance tends to be stronger in these companies.
Statutory Compliances: Please ensure that all your statutory compliances or payments like Income tax, GST, excise, etc., are paid and updated while applying for a loan.
Ensure that your financial statements are up to date and in order:
Depending on the size of the loan, the financial institution will review your company’s account record, credit score, and financial statement. However, when you should ensure that the records are complete and up to date is considered vital. The lender will also assess the income, gross margin, debt-to-equity ratio, liabilities, and other factors while sanctioning the loan.
Evaluate the critical terms of the proposed business loan:
To ensure that the loan suits your business requirements, you need to weigh the critical metrics a lender proposes and evaluate them with the terms available from other financial institutes. However, compare the interest rate on loans and how it may vary over time. Is there any security or collateral required, liability clause.
Review your online presence: Any lender will be able to perform its due diligence before approving a loan. This also includes reviewing the information available online about the business and its owners. However, it is advisable to review the company website and its social media pages.
Negotiate hard: It is essential to follow the above steps and put your business skills at work by negotiating hard with financial institutions. However, with fierce competition for acquiring customers and government push for business loans, strike the best deal with your lending partner.
Bottom line: Small business loans are readily available from various lenders with various options customised to your business’s financial status and requirements. However, in such a situation, understanding the lender’s requirement will help significantly improve your odds of getting a small business loan.