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Unless you have cash or liquid collateral, it is often difficult to apply for a traditional bank loan. Before applying for a loan, it is best to explore those banks in your area that have programs or want to work with small businesses.
The first piece of information a bank looks for is your business plan. This plan is often summarized in a pitch to quickly describe the plan to the lender. Banks are most interested in your profit and loss (P&L), cash flow, and balance sheet information.
The bank will want to see periodic monthly P&L and cash flow bank statements that show financial stability and growth over time. The bank will be interested in the balance sheet to assure that you are in fiscally sound condition, i.e., that you aren't carrying too much debt and that you have enough assets to collateralize the loan.
The lender wants to ensure that you can repay the loan. Your ability to do so is known as capacity.
When you apply for a loan, you authorize the lender to run your credit history. The lender wants to evaluate two things: your history of repayment with others and the amount of debt you currently carry.
The lender reviews your income and calculates your debt service coverage ratio. The acceptable ratio varies by situation, but typically, a bank wants to see a minimum debt service coverage ratio of 1.2. This means for every dollar of debt you carry; you bring in one dollar and twenty cents in income to service the debt.
Even the strongest business can fall victim to unforeseen circumstances, inhibiting its ability to repay a loan. Knowing this, the bank requires collateral to protect its interests.
The type of collateral depends on the available assets of your business. Examples include real estate, business assets, equipment, vehicles, and accounts. When you sign your loan documents, you authorize the bank to place a lien on whatever assets you pledge as collateral. If you fail to repay the loan, the bank’s lien gives it the right to seize and sell those assets to recoup its losses.
Note that most banks only lend up to a percentage of the appraised value of the asset. For example, most banks lend up to 80 percent of the value for owner-occupied real estate. This means if you pledge a $200,000 property, you can only borrow up to $160,000.
In reviewing your financials, the lender evaluates your company’s capital. Capital is the amount of money the company must operate.
If the company is not well capitalized, the bank may consider the loan too high-risk to approve. The bank also wants to see how much capital you have invested in your business. This shows the bank that you are committed to the business’ success and makes you more attractive as a prospective borrower.
If your own personal financial position is significantly stronger than the business, the bank may proceed with the loan anyway, providing that you personally guarantee the loan. Sometimes the bank can require you to offer your own personal assets as collateral.
While it is a more qualitative factor than other considerations, character is another important trait when evaluating a company for a loan. Your company’s history, references and reputation all play a part in the decision to grant a loan. If your company has impeccable credit history, a good reputation in the area, and strong references, you will have little trouble obtaining a loan if you meet the other criteria.
Conditions describes the economic climate surrounding your industry. Even if your business has the capacity and collateral, a bank may choose to pass on your loan if you operate in a high-risk industry. This is not because the loan itself is bad, but because the industry has the potential for a sudden downturn, putting the bank at risk.
For example, today the recreational marijuana industry is expanding, but banks may look askance at companies in this industry because of all the regulations surrounding product sale.
To overcome poor conditions, you must exhibit great strength in all the other areas. Even then, the bank may simply not have an appetite for loans in your industry at that time. If that happens, search for a lender that is more willing to take the risk.
A small business grant is a form of financial remuneration awarded once the applicant meets the criteria of the grant. The difference between a loan and a grant is that a grant does not have to be repaid, while a loan does. There are grants available for every possible field that you can think of. Typically, they are granted to people in disadvantaged areas or from specific groups – veterans, women, Hispanics, African Americans, etc.
Many grants are also industry specific. If your business is involved in assisting a minority group in some way, or in helping the environment, then there are certainly going to be grants available. Keep in mind that there are local, state, and federal grants. Many grant programs are available for those doing business in rural areas.
It takes a long time to submit a relevant grant application. Do your research beforehand and make sure that you are applying to the right program. Federal grants are listed at Grants.gov, and you can even track these grants on IOS and Android applications. However, there is no federal grant for the simple growth of a business unless you are a minority group or hoping to solve a very specific problem.
For federal grants, the place to look is Grants.gov. It is the chief repository of federal grants. To apply for federal grants, you typically need to have something special to offer in comparison to state or local grants. You will also need to register through this online portal and submit the application form.
Grants are also available from a wide variety of other sources, including state governments, public or private organizations, and large businesses. These are typically offered at regular intervals, such as once a year.
Please see the InnovatorsLINK Expert Summary on small business grants for more information.
A loan is a funding source that generally comes from a bank but can also come from other personal or private sources. The loan generally must be paid back with interest over a specific time-period. Bank loans are generally priced to reflect their cost of capital which is dictated by the federal funds rate and their appetite for certain types of loans.
While a grant does not need to be paid back, it does have certain criteria as to how it is to be spent. For example, you cannot get a grant to help build a nursing home and then invest the money in a strip mall.
If, when, and how to select a venture capitalist is a difficult decision. Generally, the venture capitalist will invest in companies where they are familiar with the industry and growth dynamics.
Most VCs want to invest in small businesses at a more developed stage of sales and profitability. Some will invest in more early stage pre-revenue ventures with revolutionary technology or ideas.
The VC generally has a short investment horizon of five years or less, and will invest in approximately 10 companies at a time with their investor funds. They expect an average compound rate of return above about 40 percent for these investments, where two or three companies will be extremely successful and the balance will fail or just yield average growth.
The United States Venture Capital and Private Equity Database is an excellent source of information about VCs. Before you select a VC make sure they cater to your industry and that they have investor funds that need to be deployed. Make sure you speak to other companies where they have invested. Review both historical and current investments to learn about how they work with their clients.
One way to meet potential VCs is to attend and present at various investor meetings. There are many meetings which specialize in certain industries such as medical devices, gaming, etc. You can, of course, also contact VCs directly with a business summary. However, VCs see so many potential investments of similar types that they are generally unwilling to sign confidentiality agreements.
A pitch generally takes 15 to 20 minutes, with 10 minutes for questions and answers. It should include:
1. An attention-grabbing introduction
Make investors pay attention by telling a story. The CEO of a cardiac flow ultrasound Doppler measurement company, with a cardiac device that could prevent patient death and reduce hospital stay significantly, told personal patient stories whose outcomes were dramatically better than expected. The investor audiences were riveted by the stories.
2. A clear vision of a world with your company
Your job is to show investors how your company will improve lives. The same CEO was able to show how this device could save lives, reduce morbidity, and cut healthcare costs. He was able to quantify the results in real patient care terms.
3. A solid plan to achieve your vision.
The Doppler cardiac flow device consists of a monitor and disposable ultrasound flow probe. The CEO had a clear plan to offer modular electronics to all high-end monitoring companies. He would then sell them the Doppler ultrasound probes. Since all high-end monitoring companies used modular electronics, this meant rapid distribution and sale of this extremely effective technology.
4. A clear exit strategy
The CEO explained that the company planned to go public in 2002 to raise money for expansion. And that this meant investors could recoup some of their moneys or stay invested in this very promising technology and company.
A billion-dollar execution plan alone will not convince investors of your business’s potential to make them money. You must communicate a strategy for what will happen after you build it, including who will buy it. Make sure before you get in front of investors that you research similar deals and how much they earned.
5. Be prepared and remain engaging
Your stage presence makes investors remember you, so train your voice. Perfect your carriage, confidence, passion, and projection. Do not sound too stiff or scripted. One way to make sure you are prepared is to videotape yourself and watch the play-by-play to refine your body language and delivery. Rehearse your pitch several times before you present it.
6. Anticipate and prepare for questions
Audiences are impressed when you can answer all their questions in a satisfactory way.
An elevator pitch is generally no more than two minutes long and designed to impart strong investor interest in the company. The goal is to get the potential investor to ask to hear more.