Lenders look at many different factors when considering whether to approve a small-business loan application and, if approved, the amount to give. Some of these are concrete numbers, like your credit score, and others are more ambiguous, such as your character.
Although each lender may look at the complex puzzle of your application from a different perspective, there are common criteria that all lenders take seriously. These common criteria are frequently referred to as the five C’s.
The five C’s refer to credit score, capacity, collateral, capital, and character. The meaning of “credit score” is obvious enough, but what might not be obvious is the fact that you don’t have to wait to build up a long and strong business credit history before you can adequately impress lenders.
“The reality is that business credit is very rarely evaluated. Unless the owner has been in business for more than five years to establish business credit (and even then …), most lenders will look at the owner’s personal credit score,” according to Forbes contributor Brock Blake. “To lenders, a business owner’s personal record of financial management is just as important as [his or her] business’[s] record.”
Along with credit score, capacity is another one of the C’s that refers to a cold, hard number. It refers to your business’s revenue, either on a monthly or annual basis, which can help lenders determine how much you can reasonably pay back and whether your desired sum seems in line with the size of your business.
The C that stands for “capital” is sometimes referred to as “cash flow,” but regardless of how you phrase it, it is one of the most important of the C’s. The ability to manage your cash flow and have sufficient cash on hand to cover your regular expenses is one of the strongest indicators of future success, so make sure to adjust your operations to develop a healthy cash flow and describe how you have done so in your business plan.
Whether or not a lender requires collateral depends on the size of the loan and how well you perform in the other C’s. The higher your credit score and capacity, the less chance that significant collateral will be required; nonetheless, very large loans may require collateral from even the most qualified borrowers. A business loan obtained with collateral is referred to as a secured loan. If you don’t have assets that can be used as collateral, or you are seeking another alternative, you may be able to obtain an unsecured business loan, but it is important to keep in mind that “unsecured” does not mean that you don’t put any of your personal assets at stake.
“So although ‘unsecured’ business loan is a bit of a misnomer, you still can take out a business loan without tying it to a certain piece of collateral, which is good news for new entrepreneurs,” according to Forbes contributor Jared Hecht. “If you don’t have specific assets to collateralize, there are [two] ways to get a business loan: signing a personal guarantee and accepting a lien on your business.”
So while you begin your preparations to speak with your lender and present your loan application, keep the five C’s in mind and you’ll be sure to understand the lender’s perspective and anticipate the best ways to impress.