Top 10 Things Lenders Look for Before Granting a Business Loan
By Thomas Kruger, Head of Risk at Merchant West
When businesses apply for loans, it’s crucial to understand the factors lenders consider before making a decision. Thomas Kruger, Head of Risk at Merchant West, outlines the top 10 things lenders look for to help businesses position themselves for success.
By understanding these criteria, you can increase your chances of securing the financing you need to grow and thrive.
1 – Loan Amount and Purpose: One of the first things lenders look for is clarity on how much funding is needed and why. Whether it’s for working capital, acquiring new assets, or expanding operations, the purpose of the loan provides crucial insight into the business’s strategy. Lenders, like Merchant West, assess whether the loan request aligns with the company’s goals and its capacity to utilise the funds effectively. This helps in recommending the right financial product tailored to the business’s unique needs.
2 – Registered Legal Entity: Lenders look for businesses that are legally registered, as this offers protection for both the lender and the borrower. A registered legal entity not only separates personal and business liabilities, which is crucial for mitigating risk, but also projects credibility. This is especially important in securing larger contracts or funding, as it demonstrates the business’s long-term commitment and professionalism. Incorporation is often a basic requirement to ensure compliance with lending protocols and protect all parties involved.
3 – Ownership and Shareholding Structure: Transparency in a business’s ownership and shareholding structure is critical. Lenders look for a clear understanding of who owns the business, how responsibilities are divided, and the distribution of profits. This helps lenders assess the stability of leadership and accountability within the business. Knowing who is ultimately responsible for decision-making provides insight into the company’s operational strategy and long-term viability, reducing the risk of disputes or instability that could affect repayment.
4 – Business Longevity: The length of time a company has been in operation is one of the most telling indicators of its stability. Lenders look for businesses with a proven track record, as this suggests they have successfully navigated various market conditions. Longevity demonstrates resilience, adaptability, and a deep understanding of the industry in which the business operates. It also suggests that the business’s products or services remain relevant, reducing the likelihood that they’ll be outcompeted or become obsolete.
5 – Management Experience: Strong management is often a make-or-break factor. Lenders look for experienced leadership that has a demonstrated ability to steer the company through growth and challenges. Experienced managers tend to have a strong grasp of modern business practices and a capacity for innovation, both of which are key to staying competitive. A stable management team also indicates that the business is likely to continue to succeed even in volatile market conditions, which adds confidence to the lending decision.
6 – Adverse Information or Media Reports: Negative information can pose a significant risk for lenders. Lenders look for any adverse information that may affect the company’s reputation or its ability to operate effectively. This includes negative credit history, unpaid debts, or any legal issues. Media reports involving unethical behaviour, fraud, or criminal activity can also raise red flags. Ensuring a clean record is critical for building trust with lenders, as any negative association could jeopardise the loan approval process.
7 – Financial Health: One of the most critical factors lenders look for is the overall financial position of the company. Key financial metrics such as revenue growth, profitability, and operating cash flow generation are carefully analysed. These figures help determine the business’s ability to manage debt and demonstrate its financial strength. Strong financial health is a direct indicator of a company’s ability to not only survive but also thrive in its market, ensuring that loan repayments can be met without compromising day-to-day operations.
8 – Ability to Repay: Closely tied to financial health is the company’s ability to repay the loan. Lenders look for businesses that can generate consistent cash flow and maintain liquidity. Cash flow is the lifeblood of any business, and lenders want to ensure that it is sufficient to meet all debt obligations without causing financial strain. Lenders also consider access to additional capital resources to handle unforeseen expenses or downturns, which could affect repayment. A strong repayment plan is a cornerstone of responsible borrowing and instils confidence in the lender.
9 – Collateral: Collateral, or security, is often a key element in the lending process. Lenders look for businesses that can offer high-quality, liquid assets as collateral, which helps mitigate the risk associated with lending. If a company defaults on its loan, collateral allows the lender to recoup their investment. The more valuable and liquid the collateral, the lower the risk to the lender, which can also result in more favourable loan terms for the borrower. This helps ensure the lender is protected in the event of a financial downturn or default. It also achieves a pari passu senior secured lending position from a debt structuring perspective, avoiding subordination relative to other creditors that has extended facilities to the same company.
10 – Sustainable Business Model The sustainability of a company’s business model is critical in determining its long-term viability. Lenders look for businesses that demonstrate they can continue to operate as a going concern well beyond the loan period. A business model that generates consistent value, while efficiently managing resources, ensures that the company will be in a strong position to repay the loan and grow sustainably. Lenders favour businesses that are adaptable and able to evolve with market demands, ensuring longevity and financial health.
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Frequently Asked Questions
What are the top 10 things lenders look for before granting a business loan?
Lenders typically assess these top 10 factors:
- Loan Amount and Purpose: Clear explanation of the loan’s intended use.
- Legal Registration: Valid business registration confirms legality.
- Ownership Structure: Details on who owns the business.
- Business Longevity: Duration the business has been operating.
- Management Experience: Experience and track record of management.
- Adverse Information: Negative credit or media reports.
- Financial Health: Key financial metrics like profitability and cash flow.
- Repayment Ability: Ability to generate cash flow to repay the loan.
- Collateral: Assets offered as security against the loan.
- Business Model: Sustainability and long-term profitability of the business model.
Why is understanding these factors important for securing a business loan?
Understanding these factors helps you build a strong business loan application. By addressing each key area, you show lenders that your business is well-managed and financially stable, which can significantly boost your chances of loan approval.
How can I improve my business’s loan application to meet lender criteria?
To enhance your loan application:
- Clearly define the loan amount and purpose.
- Ensure your business is legally registered and compliant.
- Address any negative credit history or media reports.
- Demonstrate financial health with accurate financial statements.
- Provide valuable collateral to secure the loan.
- Highlight a sustainable business model for long-term success.
What should I do if my business doesn’t meet all the criteria for a loan?
If your business falls short in some areas, focus on improving those aspects. Consider consulting with financial advisors to strengthen your application or explore alternative funding sources like private lenders or government programs.
How frequently should I review my business practices to stay loan-ready?
Regular reviews of your business practices are crucial. Aim for an annual review or whenever there are significant changes in your operations or financials. This keeps you prepared for loan applications and ensures you can adapt to changing conditions.
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