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Loans can come in one of two forms: secured or unsecured. When your lender knows you well and is convinced that your business is sound and that the loan will be repaid on time, he or she may be willing to write an unsecured loan. Such a loan, in any of the aforementioned forms, has no collateral pledged as a secondary payment source should you default on the loan. The lender provides you with an unsecured loan because it considers you a low risk. As a new business, you are highly unlikely to qualify for an unsecured loan; it generally requires a track record of profitability and success.
A secured loan, on the other hand, requires some kind of collateral but generally has a lower interest rate than an unsecured loan. When a loan is written for more than 12 months, is used to purchase equipment or does not seem risk-free, the lender will ask that the loan be secured by collateral. The collateral used, whether real estate or inventory, is expected to outlast the loan and is usually related to the purpose of the loan.
Since lenders expect to use the collateral to pay off the loan if the borrower defaults, they will value it appropriately. A $20,000 piece of new equipment will probably secure a loan of up to $15,000; receivables are valued for loans up to 75 percent of the amount due; and inventory is usually valued at up to 50 percent of its sale price.
Letter of Credit
 
Typically used in international trade, this document allows entrepreneurs to guarantee payment to suppliers in other countries. The document substitutes the bank’s credit for the entrepreneur’s up to a set amount for a specified period of time.
Other Loans
 
Banks all over the country write loans, especially installment and balloon loans, under a myriad of names. They include:
• Term loans, both short- and long-term, according to the number of years they are written for
• Second mortgages where real estate is used to secure a loan; usually long-term, they’re also known as equity loans
• Inventory loans and equipment loans for the purchase of, and secured by, either equipment or inventory
• Accounts receivable loans secured by your outstanding accounts
• Personal loans where your signature and personal collateral guarantee the loan, which you, in turn, lend to your business
• Guaranteed loans in which a third party—an investor, spouse, or the SBA—guarantees repayment (for more on SBA-guaranteed loans, see the following chapter)
• Commercial loans in which the bank offers its standard loan for small businesses
Once you have an understanding of the different types of loans available, you are better equipped for the next step: “selling” a lender on your business.
Sources of Financing
 
When seeking debt financing, where do you begin? Carefully choosing the lenders you target can increase your odds of success. Here is a look at various loan sources and what you should know about each.
Bank On It
 
Traditionally, the paperwork and processing costs involved in making and servicing loans have made the small loans most entrepreneurs seek too costly for big banks to administer. Put plainly, a loan under $25,000—the type many startups are looking for—may not be worth a big bank’s time.
 
AHA!
 
Federal, state and local governments all offer their own financing programs designed especially for small-business owners. These programs include low-interest loans, venture capital, and economic and scientific development grants. You can find reliable information on how and where to find these programs on the
Business.gov
website, which is affiliated with the U.S. government.
In recent years, however, the relationship between banks and small businesses has been improving as more and more banks realize the strength and importance of this growing market. With corporations and real estate developers no longer spurring so much of banks’ business, lenders are looking to entrepreneurs to take up the slack.
Many major banks have added special services and programs for small businesses; others are streamlining their loan paperwork and approval process to get loans to entrepreneurs faster. On the plus side, banks are marketing to small businesses like never before. On the downside, however, the “streamlining” process often means that, more than ever, loan approval is based solely on numbers and scores on standardized rating systems rather than on an entrepreneur’s character or drive.
Given the challenges of working with a big bank, many entrepreneurs are taking a different tack. Instead of wooing the big commercial institutions, they are courting community banks, where “relationship banking” is the rule, not the exception. Even given today’s banking climate, it is easier to get a startup loan from community banks, according to the Independent Community Bankers of America. They can be a little more flexible, don’t have a bureaucracy to deal with, and are more apt to make character loans.
Do not get the idea that obtaining a loan from a community bank is a snap, however. You’ll still have to meet credit and collateral requirements just as you would at a larger institution. The difference: Smaller banks tend to give more weight to personal attributes. If the business is located in town, the banker likely already knows the entrepreneur, and the family has lived in the area for years; these things count more in a community bank.
Whether the bank you target is big or small, perhaps what matters most is developing relationships. If you have done your per sonal banking at the same place for 20 years and know the people with authority there, it makes sense to target that bank as a potential lender. If you do not have that kind of relationship at your bank, start to get to know bankers now. Visit chamber of commerce meetings; go to networking events; take part in community functions that local bankers or other movers and shakers are part of. A banker with a personal interest in you is more likely to look favorably on your loan application.
 
AHA!
 
You don’t have to do business in your own town. Lots of banks are scouring the country looking for small-business customers. Many of the top names in banking show up in your mailbox with loan offers. These loans can be a ready source of capital. So don’t toss that junk mail—it may be the debt financing you’re looking for.
Boost your chances of getting a loan by finding a lender whose experience matches your needs. Talk to friends, lawyers or accountants and other entrepreneurs in the same industry for leads on banks that have helped people in your business. Pound the pavement and talk to banks about the type and size of loans they specialize in. Put in the work to find the right lender, and you’ll find it pays off.
Commercial Finance Companies
 
Banks aren’t your only option when seeking a loan. Nonbank commercial lenders, or commercial finance companies, have expanded their focus on small business in recent years as more and more small banks, which traditionally made loans to entrepreneurs, have been swallowed up in mergers. The advantage of approaching commercial finance companies is that, like community banks, they may be more willing to look beyond numbers and assets. Commercial finance companies give opportunities to startups and a lot of other companies banks will not lend to. Here are some commercial finance companies to get you started:
• Funding Universe offers business loans of $10,000 to $200,000 for any purpose and up to $1million with full income and asset documentation. Upon application, the company analyzes your funding situation and may recommend anything from an unsecured line of credit to venture capital investment. According to its website (
businessloan.fundinguniverse.com
), the company has assisted more than 64,000 entrepreneurs.
• Privately held
Commercial Finance Group
(
cfgroup.net
) specializes in providing finance solutions to small and mid-sized companies in a wide range of industries that are unable to qualify for bank financing.
• At Hartford, Connecticut-based
Business Lenders
, loan evaluators look beyond traditional lending criteria to consider management ability and character. “Somebody who has bad credit could still be a good credit risk,” says founder Penn Ritter. “It depends on why they had the credit problem.”
Commercial lenders require a business plan, personal financial statements and cash-flow projections and will usually expect you to come up with 20 to 25 percent of the needed capital yourself. For more information about commercial finance companies, call the Commercial Finance Association at (212) 792-9390 or visit
cfa.com
.
FRANCHISE FOCUS
 
F
inancing is any startup entrepreneur’s biggest challenge—and it’s no different for franchisees. The good news is, franchisors may offer a little extra help in getting the capital you need.
 
 
Some franchisors offer direct financing to help franchisees with all or part of the costs of startup. This may take the form of equipment, real estate or inventory financing. The goal is to free up money so franchisees have more working capital.
 
Many franchisors are not directly involved in lending but have established relationships with banks and commercial finance companies. Because these lenders have processed loans for other franchisees, they are more familiar with new franchisees’ needs.
 
The franchisor you’re interested in can tell you about any direct financing or preferred lender programs available. The Franchise Disclosure Document should also include this information.
 
If your franchisor doesn’t have a preferred lender, you can often find financing by approaching banks that have made loans to other franchisees in the system. Talk to franchisees and see how they financed their businesses.
 
Once you’ve found a lender to target, you’ll need to provide the same information and follow the same steps as you would with any type of business loan.
Give Yourself Credit
 
One potentially risky way to finance your business is to use your per sonal credit cards. The obvious drawback is the high interest rates; if you use the cards for cash advances rather than to buy equipment, the rates are even higher.
 
AHA!
 
Looking for financing? Consider an unexpected source—your vendors. Vendors may be willing to give you the capital you need, either through a delayed financing agreement or a leasing program. Vendors have a vested interest in your success and a belief in your stability, or they wouldn’t be doing business with you. Before entering any agreement, however, compare long-term leasing costs with short-term loan costs; leasing could be more costly.
BOOK: Start Your Own Business
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