What You Should Know BEFORE You Apply for a Small Business … · Accounts Receivable financing...
Transcript of What You Should Know BEFORE You Apply for a Small Business … · Accounts Receivable financing...
WhatYouShouldKnowBEFOREYouApplyforaSmallBusinessLoan
©2018
AboutWacif
• TheWashingtonAreaCommunityInvestmentFund Wacif isaCommunityDevelopmentFinancialInstitute CDFI andnonprofitloanfundbasedinWashington,D.C.
• Since1987,WacifhasempoweredunderservedcommunitiesintheWashington,D.C.metropolitanareabyprovidingaccesstocapitalandexpertisetoentrepreneursandcommunityorganizations.
• Ourmissionistobuildinclusiveentrepreneurialecosystems,pursueequitableeconomicdevelopment,andsupportcommunitywealthbuildingthroughourinvestmentactivitiestostrengthenourregion’seconomiesandcommunities.
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WorkshopOverview&Goals
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5StagesofBusiness–AdaptedfromtheHarvardBusinessReviewStage1.Existence(a.k.a.“StartUp”)
• Themainconcernsofthebusinessareobtainingcustomersanddeliveringcontractedproductand/orservice.• Doesthebusinesshaveenoughmoneytocover theconsiderablecashdemandsofthisstart‐up phase?
Stage2.Survival(“CostofStayinginBusiness”)• Thebusinesshasdemonstratedthatitisaworkablebusinessentity.Themainconcernshiftsfrommereexistencetotherelationshipbetweenrevenuesandexpenses.• Canwe,ataminimum,generateenoughcashflowtostayinbusinessandtofinancegrowthtoasizethatissufficientlylarge,givenourindustryandmarketniche,to earnaneconomicreturnonourassetsandlabor?
Courtesy:HarvardBusinessReview:TheFiveStagesofSmallBusinessGrowth,NeilC.ChurchillandVirginiaL.Lewis,May1983Issue.https://hbr.org/1983/05/the‐five‐stages‐of‐small‐business‐growth
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5StagesofBusiness–AdaptedfromtheHarvardBusinessReview
Stage3.SuccessStory(“StayorGrow”)• Thedecisionfacingownersatthisstageiswhethertoexploitthecompany’saccomplishments,expandorkeepthecompanystableandprofitable providingabaseforalternativeowneractivities.
• Whatarethebusiness’salesprojections?Howlongwillittakeforyoursalestomeetyourcosts?
Stage4.TakeOff(“HowQuicklyCanandShouldWeGrow?”)• Inthisstage,themainconcernsarehowtogrowrapidlyandhowtofinancethatgrowth.Amongthekeyquestionsare:
• Willtherebeenoughtosatisfythegreatdemandsgrowthbrings[…]andacashflowthatisnoterodedbyinadequateexpensecontrolsorill‐advisedinvestments broughtaboutbyownerimpatience?
Courtesy:HarvardBusinessReview:TheFiveStagesofSmallBusinessGrowth,NeilC.ChurchillandVirginiaL.Lewis,May1983Issue.
https://hbr.org/1983/05/the‐five‐stages‐of‐small‐business‐growth5
5StagesofBusiness–AdaptedfromtheHarvardBusinessReview
Stage5.Maturity(“WeHaveArrived.”)
• Inthisstage,themainconcernsare:(1)toconsolidateandcontrolthefinancialgainsbroughtonbyrapidgrowthand(2)toretaintheadvantagesofsmallsize,includingflexibilityofresponseandtheentrepreneurialspirit.• Ismanagementisdecentralized,adequatelystaffed,and experienced?• Aretheowner(s)andthebusiness clearlyseparate,bothfinanciallyandoperationally?
Courtesy:HarvardBusinessReview:TheFiveStagesofSmallBusinessGrowth,NeilC.ChurchillandVirginiaL.Lewis,May1983Issue.https://hbr.org/1983/05/the‐five‐stages‐of‐small‐business‐growth
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UseofFunds
EnsureSurvival
PayBills MeetObligations
DebtService
PurchaseInventory,Equipment
AccountReceivableSupport
Workingcapital
MakeaProfit
PurchaseBuilding,Land,Machinery
LongTermGrowth
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DebtFinancing‐ Forms Traditional
Self‐Financing aka“bootstrapping” 401k,HomeEquityLoans,etc.
Banks&OtherConventionalLenders:
TermLoans withorwithoutSBA7aorSBA504program guaranty
LineofCredit
Alternative
AssetBasedLoans
Purchaseorderfinancing
AccountsReceivablefinancing
Factoring*‐ Thepracticeinvolvesafinancingcompany,or"factor,"advancingyoumoneybasedonitsbuyingyourreceivablesatadiscount;yourcustomerspaythefactorthefullvaluelater,whenthebillisdue.Factoringgetsyoucashinhandimmediately‐‐butatasteepprice.
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DebtFinancing‐TypesTermLoan
Fixedmonthlypaymentforasetterm/period.(Principalandinterest)
Usuallyforrealestateacquisitions,leaseholdimprovements,furniture,fixtures&equipmentpurchases,oracquisitionofabusiness.
LineofCredit
Monthlyinterestpaymentdueonoutstandingprincipalbalance.Generally6‐12monthtenor.PrincipaldueinfullatmaturityoratLender’sdemand.
Useforworkingcapitalneedssuchasaccountsreceivable,payrollandinventory.
Mayincludeamandatorywithcleanupprovision.
BridgeLoanAtypeofshort‐termloan,typicallytakenoutforaperiodof2weeksto3years,pendingthearrangementoflargerorlonger‐termfinancing.
Equipment/InventoryLoans
ShareholderLoans
BusinessCreditCards
HomeEquityLoan,401K,CashSurrenderValueofLifeInsurance
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WhyUseDebt?
Bestfor: Companieswithdefinedcashflowcycle,butcanbeattainedinstart‐upphase
Upside Avarietyofdebtinstrumentsexisttomeetspecificfinancingneeds
Assistsbusinessestomaintaincontrol
Unlikeinvestors,lenderscannotdirecthowyourunyourbusiness.
Accessibilityandflexibilitytonegotiatetermandpaymentstructure
Downside Requiressoundmanagementofcashflowacrossseasonsandcycles
Challengingforstartups,seasonal
businesses,andhighriskindustries
Repaymenttermsarenotflexible.
Debthastoberepaideverymonth, regardless ofhowwellyourbusinessisoperating
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The5C’sofCredit– Lending&Credit
Whetheryouareseekingfinancingfromabank,nonprofitloanfund,alocalcommunitydevelopmentcorporationorafamilymember,alllenderswillanalyzeyourcreditworthiness.The“5C's"arethebasicelementsofcreditanalysis.
1.Character – “Areyoutrustworthytorepaytheloan?”
Considers:Creditreports personalandbusiness ,References,Work/Industryexperience,Publicrecords,Digitalfootprint
2.Capital – “Personalinvestmentintothebusiness”Considers:Haveyoucontributedfromyourownassetsandassumedpersonalfinancialrisktoestablishthebusiness? Before youseekanyfinancing
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The5C’sofCredit
3.Capacity – “Abilitytorepay”Considers:thecashflowfromthebusiness,thetimingoftherepayment,otherpossiblesourcesofrepayment,andtheprobabilityofsuccessfulrepayment.Paymenthistoryonexistingpersonalandbusinesscreditrelationships
4.Collateral– “Home,InvestmentProperty,Contracts,Inventory,Equipment”
Considers:Pledgeofpersonaland/orbusinesspropertyorassetstoLenderintheeventofadefault
5.Conditions – “LoanPurposeandEconomicLandscape”
Considers:Sectorofbusiness,Competitivelandscape,Growthandattractivenessofindustry,Economicconditionsofthemarket
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FinancialStatements
Therearethreemainfinancialstatementsusedtounderstandyourbusiness:
1. BalanceSheet
2. ProfitandLossStatement(IncomeStatement)
3. CashFlowStatement
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BalanceSheettellsaboutyourbusiness
Itisasnapshotatonepointintimeandtells:
Whatyourbusinessowns(Assets)?
Whatyouowetoothers(Liabilities)?
Whatyourbusinessisworth(Equity)?
Howassetsareusedtooperatethebusiness?
Howliabilitiesareusedtofinancetheassets?
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HowtheBalanceSheetWorks
Thebalancesheetisdividedintotwopartsthat,basedonthefollowingequation,mustequaleachotherorbalanceeachotherout.
Assets=Liabilities+Shareholders'Equity
Thismeansthatassets,orthemeansusedtooperatethecompany,arebalancedbyacompany'sfinancialobligations,alongwiththeequityinvestmentbroughtintothecompanyanditsretainedearnings. 15
BalanceSheetAnalysis– Lenderwantstoknow:
1. Whattypeofassets doesthecompanyhave?Whatisitsvalue?
2. Lookingatitsaccountsreceivables reported,doesthebusinesscollect/getpaid foritsservices?
3. Howdoesthecompanycontrolinventory?
4. Doesthecompanypayitsbills?
5. Howmuchofyourloandebtiscurrentduein12monthsorless ,andhowmuchislong‐term greaterthan1yearmaturity ?
6. Whatis netvalue ofthebusiness?7. Lookingyear‐by‐year,howhasthe
businessperformed?Hasitsvalueincreased/decreased?Diditexperienceslossesthataffecteditsretainedearnings?
8. Hastheownertakenmoneyoutofthebusiness?
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IncomeStatementorProfitandLoss(P&L)Statement
Itisarecordofacompany’soperationsRevenuesandExpenses .
Willtellhowthebusinessperformedduringacertainperiod.
Itisanindicatorofacompany’sability tobuyandsellinventory/servicestomakeaprofit.
Willtellifthebusinessisearningasufficientmargin?
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P&LAnalysis:TheLenderWantsToKnow
1. Aresales aregoingupordown?
2. Whatitcosts toproduceorpurchasetheproduct?
3. Whatarethebusiness’expenses?
4. Netprofit— Howmuchmoneyisleftafterallexpensesarepaid?
5. Isthereanymoneyleft togrow/investthebusiness?
6. Howmuchmoneyisavailabletopaydebt existingandrequested ?
7.Howmuchmoneydoestheownerreceivefromthebusiness?
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CashFlowStatement
Demonstrateshowmuchcashflowsinorout ofthebusinessoveraperiodoftime.
Doesthebusinesshaveenoughcashtopayday‐to‐dayexpenses?
Paybillsontime?
Showsseasonalityortemporaryshortfallsand/orsurpluses.
ReconcilestheP&Landbalancesheet.
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CashFlowAnalysis– TheLenderWantstoKnow
1. Doesthebusinesshasenoughmoney tocoverday‐to‐dayactivities?paydebtsontime?maintainandgrowthe
businesswithoutanegativecashflow?
2. Thebreakdownofprincipalandinterestonyourloanpayments. Note:theIncomeStatementonlyshowsinterest‐ notprincipal.
3. Businessand/orownerweaknesses aninabilitytokeepandgeneratecash .
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WhatisthePurposeofFinancialProjections?
• FinancialStatementsdealwith presentandpastfinancialinformation.Projectionshelpyousetsalestargets,pricingandappropriatelyplanforthefuture.
• Throughforecastsorprojections,youcanexaminevarious“what‐ if”scenariostoensurethatyourcompanywillhavetherequiredcashflowtoachieveyourbusinessgoals.
• Toprovetoinvestors,potentiallenders andyourself ,thatthebusinessmakessensefromafinancialstandpoint andthatyouunderstandyourfinancialneed.
• Projectionsprovideamethodoftranslatingyourmarketopportunityandoperationsintocash flows,incomeandexpenses.
• Todeterminethefinancialresourcesneedtogrow yourbusiness.
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Projections:LenderWantsToKnow1. Atwhatpoint,willthe
businessstartoperatingintheblack (positivenetincome)?
2. Accordingtotheprojectedincomestatement,whenwillitbeprofitable duringYear1,Year2,etc.?
3. Whatwillbethe growthrateofsalesforYears1,2,3,andbeyond?Onwhatisthisbased?
4. Whatwillbethegrowthinnetincome profit ?
5. Howwill loanfundsbeallocated?
6. Howwillthesefundsberepaid?
7. Howlongwillittakepaybacktheloaninfull?
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YourCredit:CreditScore
• Creditscoresrangefrom350‐850,generally• Banksseek700 ,generally• Non‐traditionallendersseek600 ,generally
Source: www.truecredit.com
350 450 550 650 750 850
Highest
VeryPoor
Poor Fair Good Excellent
Lowest
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YourCreditReport:WhatLendersWantToKnow
Typesofnegativeinformation Maximumtimeoncreditreport
Generalciviljudgments 7yearsfromthedatefiled7yearsfromthedatepaid Iftaxlienisnotpaid,itwillremainonfileindefinitely.7years
Taxliens
Chapter13bankruptciesthathavebeendismissedordischarged
AllotherbankruptciessuchasChapter7
10years
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Summary&Takeaways– WhattheLenderWantstoKnow
Cashflowfordebtservice
Strongfinancialmanagement
Documentedfinancialcontrols
Processforbudgetingandprojections
Financiallysustainablebusinesslines
Diversifiedrevenue
Staffresources
Businessrisk
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LoanApplicationProcessGenerallyRequiredDocumentsChecklist
CompletedLoanApplication(withapplicationfee)
Businessplan(orExecutiveSummary)
BusinessTaxReturns(atleast3years)
PersonalTaxReturns(atleast3years)
FinancialStatements(P&LandBalancesheet,atminimum)
Copyofcurrentlease
Project/ContractmanagementReport
CreditReport(Personaland/orBusiness)
CorporateDocuments
EvidenceofInsurance,BusinessLicense
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GovernmentFinancing
Mobilization WorkingCapital
• NotificationtoProceed• Generallyupto30%Mobilizationor$350,000• TermofProject• AbilitytoPerform• InterestOnly&PrincipalRepaymentStructure
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ConcludingTips
Howmuchmoneywillyouneed?
Howwillthemoneybeused?
Whatisthelengthoftimethatyouneedthemoney?
Whattypeofrepaymentstructureare
yourrequesting?
Doyouhaveotherresourcesorassetsyoucanusetoreducetheloan
amount?
Doyouhavecollateral?
1.Knowyourrevenuestream s andcostdrivers.2.Bepreparedtoanswerthefollowingquestions:
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