By Kurt Chilcott
Mention SBA (Small Business Administration) loans to small business owners and here’s what typically jumps out of their mouths: “Too much red tape.” “Takes too long.” “The financing of last resort.”
These and other myths have persisted for years despite the reality that SBA loans are a viable, accessible option alongside conventional financing that entrepreneurs can leverage to grow their businesses. In today’s “credit crunch” environment, the loans’ value for banks and small businesses is amplified.
First, some quick definitions. The SBA has two mainstay programs — 504 and 7(a). Odd names, but that’s another story. The 504 loan is used to purchase commercial real estate and/or large equipment. The 7(a) loan can be used for general business purposes, including working capital, machinery and equipment, furniture and fixtures, land and building (new construction), leasehold improvements and debt refinancing.
The Benefits of SBA Loans
- SBA financing should be one of the first options small businesses consider. Why? Because they require smaller down-payments than conventional loans, have lower rates, longer terms and broader credit standards than conventional financing.
- Most banks can provide a commitment on an SBA loan within a week of receiving a full package of financial information from a small business owner. CDCs (Certified Development Companies, authorized by the SBA) can approve SBA-504 loans (for commercial real estate purchases) within 48 hours.
- What many people would consider a larger business can still qualify for an SBA loan. For example, a business with 1,000 employees and annual sales of $25 million in some cases can qualify for a SBA-7(a) loan (intended for general business purposes). A business with a net worth of up to $8.5 million or average annual net profit as high as $3 million can still get a SBA-504 loan to buy their own building or purchase large equipment.
- SBA loans are not direct government loans. 504 and 7a loans are acquired through a bank and/or a CDC. As business owners, you will interact with private-sector professionals rather than bureaucrats; SBA understands the value of partnership. The role of the U.S. government via the SBA is to reimburse the lender up to a prescribed percentage should the small business be unable to repay the loan — known as a loan guarantee — which helps the bank get comfortable making the loan if debt-service coverage is near or below its conventional lending standards. The small business borrowing the money remains obligated for the full amount due — just as it would with any loan — but the bank gets the added power of the SBA backing. That’s how credit is provided that otherwise would not be made available.
Positioning Yourself for a SBA Loan
With access to capital so tight now, many small business owners wonder what they can do to best position themselves for a “yes” when they approach a lender for an SBA loan. Here’s what the lender will look for in the initial consideration:
- Collateral. The real estate purchased is the primary collateral, so it needs to be in good condition. It needs to make sense for the needs of the business. For working capital loans, banks are going to want to consider either business-based or personal assets as security on a loan.
- Credit worthiness. While the last few years in the economy have been tough, borrowers that demonstrate on their balance sheet that they can manage expenses despite decreasing revenues are in a good position. Lenders need to see positive cash flow. If your cash flow is tight, provide reasonable and well-justified projections to get the lender comfortable with the transaction. Personal credit scores and D&B data will be reviewed.
- Diversification of revenue streams. Banks like to see a “Plan B,” ready to execute. If you have multiple products or customers from a spectrum of industries, that bodes well for your loan application.
- Minimal new debt. Ask for what you need and not more; fiscal responsibility is once again in vogue. For example, if you’re in a 5,000-square-foot office and want to purchase 50,000 square feet, your interim financials and projections need to justify why. It’s more likely your bank will be comfortable financing a building that is 100 to 120 percent of the size of your current facility.
Understanding SBA loans can open up new opportunities — and capital — for small business owners, creating bridges to expansion, growth and new job creation for you and your community. Many banks have SBA experts on staff that can explain the application process, help structure a loan and answer questions about the process. CDCs are experts on SBA-504 loans and can guide you through a process that could be one of the best investments you ever make.
Kurt Chilcott is the president and CEO of CDC Small Business Finance, and has been a Vistage member since 2004.
Originally published: Sep 1, 2011