Getting a business off the ground without any outside financing or business loan can be a herculean task especially for SMEs with little or no financial awareness. To grow a business, you need to hire new employees, invest in the supply chain, maintain day to day operations, and so on and so forth.
As indicated by Dun and Bradstreet Research, for every 100 organisations in India, there are more than 95 micro enterprises, 4 small-to-medium organisations, and less than one large company. The optics demonstrate a gap, which market analysts allude to as ‘The Missing Middle’. The reason being Indian micro enterprises are finding it hard to scale up and grow their business.
Business loans can enable 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, should anything go south, you may end up losing the collateral put up for the loan.
Hence, having a clear idea about the lending process, the types of loans available, and lender’s prerequisites are considered critical for any business.
Understanding business requirements
Business needs are very subjective. This means before approaching lenders; it is imperative to understand the purpose and requirement of the loan; as in, why they want the loan and how are they going to use it. Good debt creates value in the long term while bad debt pushes the business towards financial distress and eventually leads to bankruptcy or closure of the business.
Also, being over-leveraged or under-leveraged might have long term ramifications for the business and can affect the financial health of the company.
In short, it is important to assess the purpose, amount and timing of a business loan before you start reaching out to lenders.
Here’s a definitive list of options that’ll help you get a business loan approved.
1. Understanding the types of loans available for small businesses
Applying for a business loan can be an emotionally draining and time-consuming process.
Therefore, it is useful to understand the types of loans available in the market:
Term loan is regarded as one of the most mature and preferred forms of SME loans. In case of term loan, the borrower gets a lump sum amount and he is required to repay the amount in installments over the borrowing time period typically 6 months to 5 years. Some lending organisations give long-term loans against collaterals like land, building, etc.
Cash Credit Facility:
It is a form of a short-term source of financing. Borrowers can draw against a limit and can repay as payment hits their account. It is primarily used for short term requirements. Many lending organisations provide credit cash facility to SME entrepreneurs against collaterals.
According to RBI report, bank credit to MSME has jumped 9.5% at the end of September 2018 from the previous year to ₹9.5 trillion. However, MSMEs across India still face challenges to meet their daily capital needs. As such 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. This new age discounting, empowers entrepreneurs to access working capital by discounting unpaid invoices in a quicker and faster manner, before their due date.
To build a robust Eco-system for fostering startups, the Government has 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.
2. 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 instance, direct online lenders, large commercial banks, P2P lending sites, etc.
Hence, as a rule of thumb, do thorough research on the terms and requirements of the lender online as well as offline to find the best offers. Understand whether it fits your business needs and then approach the lender to make the process easier.
3. Understand how the lender will review your credit and risk profile
Lenders eventually decide on whether or not to provide a loan based on the borrower’s credit and risk profile. Any financial institution will evaluate your eligibility based on the parameters given below:
Lenders will evaluate your creditworthiness for a business loan based on credit bureau scores and your credit history. So, having a credit score above 750 will aid in getting loans approved faster.
Outstanding loans and cash flow:
While sanctioning a loan, lenders will scrutinise all outstanding loans and debts to understand the company’s ability to repay the loan.
Lenders will evaluate the physical assets as well as cash flows/receivables to determine whether there is a comfort in case there is a default.
Organizations that have vintage in their respective industry tend to get loans easily.
Investors in the company:
Organizations that are funded by venture capital investors or prominent institutional investors have an edge as corporate governance tends to be stronger in these companies.
Please ensure that all your statutory compliances or payments like Income tax, GST, excise, etc. are paid and updated while applying for a loan.
4. Ensure that your financial statements are up to date and in order
Based on the size of the loan; the financial institution will review the company’s account record, credit score, and financial statement. Hence, ensuring that the records are complete, and up to date is considered vital. The lender will assess the income, gross margin, debt-to-equity ratio, liabilities, and other factors while sanctioning the loan.
5. Evaluate the key terms of the proposed business loan
To ensure that the loan suits the business requirements, one needs to weigh in the key metrics proposed by a lender and evaluate them with the terms available from other financial institutes. Compare the interest rate on loan and how it may vary over time, is there any security or collateral required, liability clause, and so on.
6. Review your online presence
Any lender will perform its due diligence before approving a loan. This includes reviewing information available online about the business and its owners. Hence, it is advisable to review the company website, and its social media pages like LinkedIn, Facebook, Twitter, and other platforms.
7. Negotiate hard
Whilst it is important to follow the above steps, it is also equally important to put your business skills at work by negotiating hard with the financial institutions. With fierce competition for acquiring customers and government push for business loans, strike the best deal with your lending partner.
Small business loans are available from various lenders with a myriad of options customised to the financial status and requirement of your business. In such a situation, understanding the lender’s requirement will help significantly improve your odds of getting a small business loan.