By Bruce Hurta
When we drive somewhere we have not been before, we need a roadmap. When a small business owner requests an SBA loan, the lender wants to know where the business is going and how it plans to get there. Will the business be able to use the loan proceeds to reach its goals? More specifically, will the business produce enough extra income to make the loan payments? The SBA lender wants to see the business owner’s road map.
Since the lender must ultimately decide whether the business has the capacity to make the proposed loan payments, he will ask the borrower for financial projections. The financial projections will use the various components of predicted revenues and expenses to calculate the predicted cash flow available to make those loan payments. Without reasonable assumptions, however, the financial projections are just numbers on a page.
Where, then, do these assumptions come from? How can the lender rely upon them to be accurate predictors of future revenues and expenses for the business? The answer to these questions should be found in the business plan. Is there a certain format or a certain content that needs to be in a business plan? Not necessarily. Even though there are many wonderful models for business plans, I tell business owners that I like to see a business plan with the mark of the owners on it.
A financial advisor may have a great software program or format for producing a business plan, but without the owners’ participation to generate the data necessary for input into the model, the plan may be worthless. After all, it is the business owners who must have the knowledge of their industry and their market to execute the plan. A lender wants to know that the small business borrowers have the industry experience or that they have done the necessary research to compete effectively with other business owners who are successful in their industry and their market. These criteria need to show up in the business plan.
What convinces a lender that the borrower has the necessary business management experience? The best example of effective management experience is already having a good track record in the subject business. With SBA lending, however, we are often evaluating loan requests from new or expanding businesses which do not have the track record yet. In those cases, a management resume from the owners may reflect the necessary experience. The owners may have managed a similar business successfully for someone else. The owners may have the educational background and experience to strengthen the management team. In the case of a franchise, the owners may be using a time-tested model provided by the franchisor. With an expanding business, the trends in historical revenues and expenses may demonstrate the business’ ability to achieve financial projections.
Lenders love facts and statistics. A lender can easily identify the loan applicant who has done his homework. This applicant’s business plan will include documentation of the research conducted by the applicant into the market his business is entering. He will make comparisons to similar businesses in the market which constitute his competition. He will evaluate growth trends in the market to assure himself and his lender about its capacity to absorb and support another business of the kind he is planning. The borrower will also include facts and statistics about his industry in relation to that market. The borrower needs to understand that the lender must be able to put himself in the shoes of the applicant and feel the potential for success that the applicant feels about the business. Market and industry research, facts, and statistics will support such a presentation.
Finally, the business plan will address the amount of the business owners’ personal contribution (equity) to the business. Every lender wants to see a borrower with “skin in the game”. Being a lender, and not an equity provider, requires a reasonable ratio of borrower’s investment in relation to the loan amount. An acceptable debt-to-equity ratio can look like a moving target to the business owner, because there are so many factors that affect the amount of leverage a lender is willing to grant a business owner. Those factors include the track record of the business, the credentials of management, the type of business, the perceived risk in that industry, the credit record of the borrower, collateral offered, and the reasonableness of assumptions in the business plan and financial projections. Ultimately, the business owner must have enough of his own investment in the business to cause him to “do what it takes” to make that business successful!
In summary, the lender will be looking at financial projections for a new or expanding business on a month-to-month basis for at least the upcoming year. The lender must have the facts and research to believe that the projected revenues are achievable. He must also understand why the business owner is predicting the various expenses related to that revenue, and that nothing is left out. A “hands-on” business plan, financial projections, and reasonable assumptions based upon facts and research will go a long way. The business plan does not need to be a fancy, thick book of information. It needs to be a genuine portrayal of the borrower and his business. A business owner who cannot answer questions about his business plan, which was prepared by somebody else, won’t get far with a lender.
For other articles on SBA lending, please see Bruce’s blog at brucehurta.wordpress.com.
For more information about SBA real estate loans for small businesses, please contact:
Bruce Hurta, Business Lending Manager, Members Choice Credit Union. You can reach him at 281-754-1112 / 281-384-2595 cell or by email at bhurta@mccu.com.
