Small personal loan bad credit

Improved availability of credit should be a boon to small businesses both start-ups and going concerns.

Demand for business loans is on the upswing, and banks have opened the credit spigot wider than at any point since the 1990-91 recession. From January 1993 to January 1994, total loans by banks based in the United States increased by almost $130 billion, up 18 percent. In contrast, from January 1990 to the end of 1992, bank loans declined by about $81 billion, or 15 percent.

"At the time, small-business men and women in all parts of the country were having difficulty obtaining credit for businesses or projects that they considered sound and for which they believed they would have received credit in the past," Eugene A. Ludwig, the comptroller of the currency, told the House Committee on Small Business earlier this year. "We were hearing many reports of small firms whose lines of credit were cut off, despite sound business prospects and unblemished credit histories."

Jim Chessen, chief economist for the American Bankers Association, in Washington, D.C., says a key reason for the credit crunch of the late '80s and early '90s was an overreaction on the part of Congress and the major banking regulatory agencies to the savings and loan crisis.

That "brought about an environment of 'make no mistakes in lending' that caused banks to be overly cautious," Chessen says.

In March 1993, federal regulatory and administrative policy changes were instituted to improve the flow of credit to the nation's small and medium-sized businesses.

"Some of the Clinton initiatives did start the ball rolling," Chessen says. These actions coincided with declining interest rates, which spurred loan demand and helped promote economic recovery.

Since February 1994, the Federal Reserve Board has nudged up interest rates, causing the prime rate--the rate at which banks lend to their best commercial customers--to rise to 7.25 percent from 6 percent. (Small-business loan rates usually run 1 to 2 percentage points above the prime rate.) The increase by the Fed was designed to keep inflation from igniting.

Nonetheless, credit remains available in every region of the country, and there are no signs of a recurrence of a credit crunch, says Mark Vitner, an economist with First Union National Bank, in Charlotte, N.C. "Credit availability is the crucial factor, not the level of interest rates," Vitner says.

Chessen says the recent rise in interest rates has not had a marked effect on business loans. "The rate increases we have seen are not enough to slow down business credit availability," he says. "Banks are still looking to provide loans to creditworthy business borrowers, and we expect a 5 percent increase in business borrowing this year."

So what can you do to take advantage of the end of the credit crunch? Here are some steps that might help improve your chances of getting a favorable response from a bank the next time you apply for a small-business loan:

Educate Your Banker

A bank that is unfamiliar with your business and industry is less likely to give a favorable response. A narrative business plan is an excellent way to tell a banker what your company does and how it does it. This is essential if you seek financing for a start-up venture, but it also is a valuable exercise for existing businesses. Most business plans include the following:

* A summary of what the business plan covers.

* A brief history of your company, or the origination of the idea if the company is a start-up.

* Resumes of managers and other key employees.

* A description of the products and services offered.

* An outline of your company's marketing strategy.

* A description of the business's day-to-day operations.

* The company's goals.

* The amount of money required to operate the business.

* Financial projections.

Most bankers prefer a concise, informative synopsis of your business. "Having something written on the business makes me think they have done some thinking and planning on their own," says Glenda Frangenberg, a commercial-loan officer with Citizens Bank of Jonesboro, Ark.

Another effective way to educate a banker about your firm is to have him or her visit your company. A visit will allow the banker to see your operation and the products and services offered and to meet with your key employees.

Show That You Can Repay The Loan

Your financial track record is a major factor in the lender's loan decision. An existing company will be required to present at least three years of company financial statements and a current personal financial statement.

A start-up will have to include a personal financial statement and other information, including a business plan. Whether your business is an existing concern or a start-up, your financial projections will be closely scrutinized.

A lender will not make a loan without confidence in your company's ability to generate the cash flow sufficient to repay. "We are cash-flow lenders, so this is a key area of the loan request," says Mike Gilligan, a small-business loan officer with Chase Manhattan Bank in New York.

In analyzing the past performance of your venture, your banker will consider five key areas: sales trends, profitability, liquidity, leverage, and cash flow.

"We look very closely at the trends of the company," says Gilligan, who has 22 years of lending experience. "If we see sales on the rise, good liquidity, and earnings being retained, then that's a good sign."

In addition, Gilligan says, "we look at the equity investment of the owners in the business. The more equity, the better."

Gilligan says that to maintain flexibility, his bank does not impose a minimum allowable level of equity.

But most banks calculate a debt/worth (total liabilities/total equity) ratio as part of their analysis. For most industries, lenders prefer that this ratio not exceed 4:1--for every dollar you have invested in the business, liabilities should not exceed $4.

Bankers also look for a positive bottom line. But if your business has lost money in a recent period, there may still be hope. If your prior profitability performance was positive, emphasize this. Then explain what you plan to do to get the company back in the black.

"We can handle situations in which a company made money for a few years and has one bad one," says Scott Day, a vice president with First National Bank of Michigan, in Lansing. "I guess you could say we will do small-business loans to those who have fallen and can't quite get up."

Says Glenda Frangenberg: "In addition to historical statements on the company, we require a personal financial statement on the owner. If the owner is loaded to the gills with personal debt, then that's a problem."

The personal financial statement should include a balance sheet reflecting all assets and debts owed and the individual's net worth, along with a disclosure of annual income. In addition, many banks like to see two or three years of tax returns from the owner or owners to verify income and to analyze trends.

Have Collateral

"Collateral is a very important factor for all of our small-business loans," Scott Day says. "The amount of emphasis we place on the collateral depends on the whole package. In fact, it can be the determining factor in certain situations."

Bankers look at two key areas when analyzing collateral: quantity and quality. The quantity part of the assessment involves the calculation of a loan-to-collateral value ratio. For instance, most banks will loan 65 to 90 percent of real-estate value; 60 to 80 percent of accounts receivable; and 50 to 80 percent of machinery, equipment, and inventory.

The quality of collateral is a more subjective determination but is equally important in the overall analysis.

If your request involves real estate as collateral, the bank will consider the potential marketability of the property in case of foreclosure. For a loan collateralized by accounts receivable, the collectibility of the accounts will be scrutinized. And for equipment and inventory loans, the risk of obsolescence will be investigated.

In addition to requiring collateral for most loans, bankers also generally ask for personal guarantees from the owner or owners. The guarantee agreement provides a secondary repayment source from the business owner in case the loan becomes severely delinquent.

"It is a policy here that the principals of all closely held companies guarantee loans that we grant," Glenda Frangenberg says. "If they aren't willing to back up the loan, then we probably aren't either." For most lenders, there is little distinction between a small business and its owner or owners. "In small business, the owner is the business," Day says.

Special Considerations For Start-Ups