Whether you are looking for funding to get a new business off the ground or need an infusion of cash to see you through a temporary setback, you can improve your chances of successfully negotiating a loan by understanding the criteria that lenders use in making their credit decisions. Most lenders manage the risk associated with extending credit by using the Five C's: character, capacity, commitment, collateral and conditions.
Lenders look at your personal character to determine whether you have qualities that will motivate you to repay the loan. They value your good reputation, honesty and integrity, because these traits are factors in your willingness to meet your obligations. The lender will also consider knowledge and experience in your area of business, your grasp of financial principles and the soundness of your plans for the future of your business.
In addition to your willingness to repay the loan, lenders are interested in your capacity for repaying it. The lender will examine your business to determine whether you have sufficient liquidity to make your scheduled payments and continue to operate the business. Your liquidity, or working capital, is the cash you have on hand or have the ability to generate. You can demonstrate capacity by showing that you can control costs and operate the business at a profit.
You need to show a potential lender that you are personally and financially committed to your business. The lender will want to know about personal choices you have made that demonstrate commitment to the business, including lifestyle choices like where you live and how many hours you work. The lender will assess your financial commitment by comparing the amount that you are risking on the business to the amount that you want the lender to risk.
Lenders protect themselves against potential losses by requiring you to secure the loan with collateral. When you borrow money, you will be required to give the lender the right to take specific business assets in the event of a default. Lenders prefer assets, like buildings and land, which retain their value even when business conditions are poor, but they also consider how quickly they can sell the assets to recover their investment.
Although general economic and environmental conditions are beyond your control, lenders consider how these factors might affect your business as part of their decision about extending credit. The lender will assess whether your local market is accessible and secure, as well as how it fits into the global economy. The lender will examine consumer trends and environmental restrictions to evaluate whether they are likely to affect the future success of your business.