How to Prepare a Loan Package

Finding financing to start and expand a company
is an age-old problem, and most entrepreneurs
find it to be one of the greatest struggles
they face.

While the process can be time consuming, frus-
trating and intimidating, if you are informed
and well prepared, your chances of securing
the needed capital are greatly increased.

In putting together a loan package, ask
yourself the following basic questions. An-
swers to them, and the information provided
to back up the answers, are essential to the
lending decision and the rapidity with which
it is made.

1) What is the specific purpose of the loan?
Your lender or investor will review your fi-
nancial requirements among three types of
capital acquisition:

* Working Capital. Used to meet fluctuating
needs that will be repaid during the company’s
next full operating cycle, generally one year.

* Growth Capital. Used to meet needs that
will be repaid with profits over a several-
year period (usually not more than seven
years). If seeking growth capital, you will
be expected to show how the money will be used
to increase profits sufficiently to repay the
loan in the agreed-upon time frame.

* Equity Capital. Used to meet permanent needs.
Equity capital must be raised from investors
who will take a risk in return for some combina-
tion of dividend returns, capital gains or a
specific share of the business.

2) What amount of financing will support my
needs? NOT, how much can I borrow? Have enough
existing capital so that, augmented by the loan,
the business can operate on a sound financial
basis. For new businesses, this includes suf-
ficient resources to withstand start-up expenses
and the initial operating phase during which
losses are likely to occur. Be able to inject
between one-third and one-half of the total cap-
ital required. If you plan to borrow equity
from friends or relatives, determine what the
repayment terms will be.

3) When and for how long will I need these funds?
Most of today’s lenders are providing growth cap-
ital in the form of asset-based loans, i.e., loans
for acquiring land, buildings or equipment which
can be used as security. While the majority of
these loans carry terms of three to seven years,
some may extend over longer periods. For finan-
cial planning purposes, the entrepreneur should
keep in mind that longer loan periods incur lar-
ger overall interest costs.

4) How will I generate sufficient cash flow to re-
pay the loan? Consider the situation from the
lender’s point of view: if you were asked to lend
someone money, you’d want assurance of being paid
back in full, and in a timely manner.

5) What collateral can be utilized, if applicable?
Estimate its value, and be ready to provide sup-
porting appraisals.

6) Will the owners provide personal guarantees?
Having a comprehensive and well-thought-out bus-
iness plan is essential in obtaining financing.
In fact, without one, even stepping into the bank
is pointless. To lenders or potential investors,
it not only provides information and reveals your
evaluation of your venture’s feasibility, but
also reflects your management abilities. An an-
alytical, objective business plan convinces lend-
ers you are cautious, conservative and capable.
One that is poorly researched, or makes unsup-
ported assumptions and draws unfounded conclu-
sions, shows you are inexperienced and — in
their eyes — reckless. Lenders receive so many
proposals that they cannot afford to spend much
time evaluating each business plan. That means
your plan has only a few minutes to make a good
impression, and must speak for itself as a sales
tool. One key is to make sure your business
plan is as thorough and accurate as possible,
and that you can back up all your claims with

The business plan should include:

* Executive Summary. This portion concisely sum-
marizes the key elements of the business plan
which follow, and should convince the lender that
it is worthwhile to review the plan in detail.
Include information about the loan being sought
in terms of amount, purpose, duration and how you
intend to pay it back.

* Company History/Organization/ Management. De-
scribe the historical development of the business,
including legal form of organization, significant
changes, subsidiaries and degree of ownership,
and the principals and the role they played in
the firm’s foundation. Detail their experience
and the management and decision-making structure.
Also include an organizational chart, and discuss
other key personnel and their responsibilities.

* Product/Service. Detail the present or planned
product or service lines, including their rela-
tive importance (with sales projections, if pos-
sible), evaluation (use, quality, performance),
competitive advantage and demand.

* Market Analysis/Marketing Strategy. You should
be able to estimate how many customers you will
have and how near they are to your location, as
well as their age, family structure, lifestyle,
disposable income and purchasing habits. Ex-
plain why your product/service is desirable to
them, the scope of your firm’s marketing and sell-
ing activities (including pricing policy), and
what share of the market you will realistically be
able to capture based on the industry analysis
that follows.

* Industry Analysis (Competition). It is equal-
ly important to know about your field and have a
keen sense of the competition. List your major
competitors by name and describe how closely
located they are, what products/services they
provide, what they do better/worse, and how pro-
fitable/successful they are. Also elaborate on
the industry itself, including an industry out-
look, principal markets, industry size and major
characteristics. Describe the effects of any
major social, economic, technological or regula-
tory trends.

* Production/Operating Plan. Explain how the
firm will perform production or delivery of
service in terms of physical facilities, sup-
pliers, labor supply (current and planned),
technologies/skills required, manufacturing
process (if applicable), and cost breakdown
for materials, labor and overhead.

According to George Solomon, Director of
Education and Resource Management for the SBA’s
Business Development Office, the following items
will also be needed to support a loan request:

* Sources and Uses of Funds Statement. The po-
tential lender will require a statement of how
you intend to disperse the loan funds. Back up
your statement with supporting data. For ex-
ample, buying a commercial building will require
a preliminary title report, an appraisal, an
escrow and title insurance, among other documents.

* Cash Flow Statement (Budget). These documents
(used for internal planning) project what your
business means in terms of dollars, and show cash
inflow and outflow over a period of time. If
you’ve been in business for some time, worksheets
can be compiled from the actual figures of income
and expenses of previous years combined with pro-
jected changes for the next period. If starting
a new business, you will have to project your
financial needs and disbursements.

* Three-Year Income Projection. This pro-forma
projection only includes income and deductible
expenses, while the cash flow statement (above)
includes all sources of cash and monies to be
paid out. Find out the lender’s specific re-
quirements as to whether income and expenses
should be projected on an annual or monthly

* Break-Even Analysis. The break-even point is
the point at which a company’s expenses exactly
match its sales or service volume, and the firm
neither makes a profit nor incurs a loss. It
can be calculated in either mathematical or
graph form, and expressed in total dollars or
revenue exactly offset by total expenses.

* Balance Sheet. This financial statement,
usually prepared at the close of an accounting
period, shows the financial condition of the
business as of a fixed date. By regularly
preparing it, you will be able to identify
and analyze trends in the financial strength
of your firm and thus implement timely modi-

* Income Statement. In contrast to the bal-
ance sheet, this statement shows what has
happened to your venture over a period of
time, and is an excellent tool for assessing
your business. It enables you to identify
weaknesses in your operation (such as the
timing of an advertising campaign that did
not bolster sales as anticipated), and de-
vise more effective ways to run your firm
and thereby increase profits. Similarly,
you might examine your income statement to
see which months have the heaviest sales
volume, and plan inventory accordingly.
Comparison of income statements from several
years will provide an excellent picture of
the trends in your business.

As a sole proprietor or principal of a
corporation, you may be asked to back up
your business loan with personal assets
(your house, stocks or bonds). If you’re
in a partnership, a personal guarantee must
be signed by all principals for repayment
of the loan.

It is important to emphasize that busi-
nesses with several years of successful opera-
tion will find it far easier to obtain financ-
ing than start-ups, as lenders will be much
more receptive and confident in your ability
to repay a loan at that point. In fact, with-
out a strong business plan with realistic ex-
pectations and forecasts, managerial experience
and collateral, it may be impossible for a new
business to get a loan at all. Lenders are
always leery of extending financing to new ven-
tures or unproven management teams as they rep-
resent a high risk of default.

This doesn’t mean you can’t get a loan as
a start-up, but rather that you will have to
compensate for the lack of a track record by
being strong and well prepared in other areas.
Demonstrate by your enthusiasm and the thorough-
ness of your business plan that you are commit-
ted to the venture and that it will succeed.
After all, when applying for a loan, you’re sell-
ing both yourself and your business.

Scott McCrea, a consultant with Deloitte &
Touche’s San Francisco office, advises entrepre-
neurs to develop and nurture a relationship once
credit is granted. He suggests keeping the
lender updated on the company’s progress, and
staying abreast of the lender’s other products
and services that may apply to your business.
As the firm grows, you may need to restructure
or enhance your credit, and it only makes sense
to turn to someone already familiar with, and
confident in, your business acumen.

How Banks Evaluate Loan Requests

In putting together the best possible package
to secure a business loan, it’s important to
know what happens after you leave the bank,
and the lending officer evaluates your request.

But first a word of warning from Roger
Bel Air, author of How to Borrow Money from a
Banker and national lecturer: Banks are in
business to lend money and get it repaid —
with interest. That’s their number one pri-
ority. And several key factors are contri-
buting to heightened cautiousness on their
part, including concern about a greater number
of business failures and losses in the face of
an economic recession, and tougher loan exam-
ination policies by federal bank regulators
as a result of the savings and loan crisis.

“A banker’s career is based on not mak-
ing mistakes,” Bel Air stresses. “And deter-
mining whether or not the bank will be repaid
— the bottom line in any loan decision — is
subjective. Beyond the facts and figures alone,
banks want to see that the applicant has thor-
oughly reviewed his options, laid the necessary
groundwork for borrowing, and prepared a
clearly written and well organized loan appli-
cation. This is particularly true in today’s
credit-tight market as lending officers feel a
tightening of the screws from regulators, and
uncertainty about the future.”

Another advantage of preparing an effec-
tively organized loan application (including
the all-important business plan) is that it will
significantly decrease the time spent waiting
for an answer. According to John Nelson III,
SCORE counselor in Rhode Island and vice presi-
dent of a major U.S. bank, “in about 80 percent
of the cases, the formal request is not com-
plete.” Much of the time spent in approving a
loan can be traced to the banker having to ask
the potential borrower for more information or
for clarification of the information that has
already been submitted.

In evaluating loan applications, three C’s
of credit are taken into account — character,
capacity and collateral.

1. Character. Character is actually a check on
your financial status and personal credit his-
tory, including your previous loan payment
record. The theory is that people are creatures
of habit — if you have repaid a loan on time
before, you will repay this one as well. Con-
versely, if you have defaulted on a previous
loan, the danger is that you’ll tend to default

Also considered is experience in the type
of business you are trying to finance, including
level of responsibility, education and business
management training. Lenders are particularly
concerned that potential borrowers have a solid
understanding of financial record keeping, busi-
ness credit, the importance of collecting ac-
counts receivable, inventory control and turn-
over, and marketing their product or service.

If your prior business experience is not
relevant to your current venture (for example,
if your career has been in the corporate world,
and you want to start a restaurant), banks
will be leery about your ability to run the
new endeavor successfully and thus repay the

2. Capacity. Prudent bankers have always looked
first to the cash flow of the business as the
way the loan will be repaid, which underlines
the importance of preparing a cash flow state-
ment with future cash flow projections before
presenting your loan request. Doing so indi-
cates to the lender that you are knowledgable
about the cash coming into your business and
being spent, and therefore better able to
avoid a cash shortage that would jeopardize
making monthly loan payments.

3. Collateral. While cash flow is the primary
source of loan repayment, lenders will want a
back-up or secondary source as an “exit of
last resort” should your business not prove
profitable. Collateral — defined as “anything
of value used as security for repayment of a
debt or performance of a contract” — can be
real estate, stocks and bonds, savings account
passbooks, equipment, accounts receivable, or
the cash value of life insurance policies.

Psychologically, lenders feel that bor-
rowers have more interest in repaying the loan
if they know that failure to do so will result
in the lender taking possession of whatever
has been put up for collateral. A lender will
also try to obtain personal guarantees so that
if you default on the loan, the institution
has access to your personal assets.

It’s important to note that these days,
in the wake of severe economic downturns such
as that experienced in the Southwest in the
mid-1980s, collateral doesn’t carry the weight
it used to. As the president of an Oklahoma
bank stated, “In Oklahoma City, you can buy a
building today for what it cost to rent one
eight or nine years ago.” So banks are like-
ly to require more collateral than was pre-
viously the case, and evaluate it based on
market — rather than replacement — value.
Companies without enough collateral to pledge
will have to scale back their borrowing needs
and make do with less.

One final tip is not to forget “relation-
ship banking.” Once a relationship has been
established, and you’ve explained your business
operations and anticipated needs, it becomes
far easier to approach a banker when a loan is
needed. This familiarity will make you more
credible than a customer who has not taken
the time to introduce himself.

And be sure to stay close to your banker,
being open and honest about major changes and
significant events — both good and bad. Be-
cause your lending officer has to tell your
story to other people in the organization (in-
cluding his superiors), nothing can jinx the
relationship faster than a lack of candor.
Feeding bankers regular information is, of
course, time consuming when you have a com-
pany to run. But it’s all part of building
credibility and trust, and will enable you to
use your banker’s knowledge to help ensure
the continued success of your business.

About author

SMB Reviews
SMB Reviews 473 posts

SMBReviews is committed to providing small and mid-sized business owners with the information and resources they need to select the best service or product for their company.

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