Commercial Financing Jitters Debunked
By Andrew Nere and Angela Faringhy
Money and Emotions
It is known that emotions affect financial decisions, whether it be for oneself or a business. Suze Orman has shared time and time again that fear, shame and anger are the most common emotions surrounding money. With the proper understanding of money and how to use it, we believe more money will start to flow.
We can relate this principle to business financing and leasing. Let’s take a prideful small business owner, the business has hit a slump and it needs financial assistance to keep operations rolling. Do you think pride would get in the way of seeking help from a lender? Or do you think the business owner would most likely ride it out and try to beat the slump? We commonly see business owner’s intimated by financing and it comes down to not knowing enough about it.
In this article we hope to help de-mystify and dismiss uncertainties of the financing process and give a peek into the thinking of a commercial lender.
Where to Look For the Right Financing Partner
It is too easy to be swindled in the digital age we live and work in. Trust is more important than ever when establishing monetary partnerships.
We do a lot of business ourselves online, sometimes more than in person. We stress the importance to all business owners and consumers to do your research on whom you are considering doing business with.
Simply searching a company name is not sufficient enough. Today there are reliable platforms such as Yelp, BBB, LinkedIn, and Google Reviews available at our fingertips – we all have access to customer feedback on just about any business. We are constantly using this to our advantage in analyzing company reputations, legitimacy and whether or not a company is worth doing business with.
Next it is crucial to compare industry experience amongst companies. A strong finance specialist is essential through all phases of the finance agreement. An experienced establishment will provide prompt communication, accurate time frames, product knowledge and so much more. Partnering with a company that truly understands the inside and outs of the financing world will reflect the financing options made available to your business.
The financing industry is very finicky. Many companies cannot survive the down side of multiple economic cycles. Lenders who have over 20 years of experience have survived two market crashes and multiple economic ups and downs. Experience allows companies to offer products and pricing based upon seasoned portfolio data. Additionally, this experience allows established companies to experiment with programs and evolve offerings to what really helps businesses grow. Wouldn’t you rather work with a company like this? So don’t forget to ask how long a business has been in operation.
Reviewing Rates, Quotes, and Companies
The term rate can actually mean a number of different things depending upon how it is calculated. For many of us who aren’t finance savvy – it is easy to get confused by the terminology, is it Annual Percentage Rate (APR), Running Rate, Return Rate, etc. Then there are “non rate” expenses like interim rent, titling fees, taxes, and documentation fees.
Because of these elements, it is difficult to say that 2% or 10% is a truly a good rate. Indeed, we coach our customers to put all of the variables into consideration. You’ll want to look at the overall term (# of payments), the payment itself, and the end of term purchase option (if any). Once you have all of this information, you can look at the overall payback and not focus too much on the “rate”.
But what it really boils down to is your quoted monthly payment and term (length of time you make monthly payments for) and if you and your business can truly afford to make these payments, on time, every month for 24 months! Don’t forget to pay attention to any end of term purchase options and/or obligations. If there is any ambiguity in the language be sure to get your answers in writing and file them away with your contract copies.
There are two types of entities you will find when searching for a commercial lender; Direct Lenders and Brokers.
Direct Lenders are entities that have the ability to make the credit decisions themselves and fund the transaction. Many Direct Lenders also have the ability to “syndicate” or “broker” transactions that don’t fit their internal appetite.
Brokers are entities that gather information and shop the financing transaction with Direct Lenders. It’s important to note that working with a broker does not mean your financing is going to be more expensive. Rather, the broker can do the shopping and find the most competitive financing on your behalf.
Whether the lender is Direct or a Broker, you’ll want to make sure to pay attention to the longevity of the business. It is important to work with someone that will be around for the entire term of the financing.
Great Customer Service
We all want top notch customer service. Keep in mind these key attributes when selecting a financing partner:
Are they easy to get in contact with?
Do they listen to your needs?
Do they take the time to explain the process?
…and lastly do they make your request a reality?
The Application Process – The 3 C’s
Lenders consider three important attributes credit, collateral and character when deciding whether a business will get approved for financing.
Let’s start with Credit. Credit consideration is made up of a few variables; time in business, credit scores, and bank statements. Time in business is important because it is relevant with a lenders risk in investing in a business. New businesses tend to have lower success rates, while businesses with 2 or more years under their belt are more financially established. Generally credit scores of 500 and higher will be approved for financing, however lower have been accepted. It takes some time for new businesses to establish business credit, therefore the lenders will accept the owners personal credit score for review in its place. Lastly, bank statements are reviewed if the credit needs more support. Lenders look at statement balances, spending history and deficiencies. With the combination of time in business, credit score and bank statements – there is lots of room for redemption in case one area is lacking.
The Collateral is an important element of the credit consideration as the assets being financed can be a secondary source of repayment in case of default. The resale value of the collateral is considered and factored into the credit decision. Equally as important is what does the collateral mean to the business, is it essential to its operation and success.
What a character? The history of the owner(s), both in business and personally are considered. Often there are public record checks to make sure there are no outstanding issues that could impact the borrower’s ability to repay. For example outstanding debt or outstanding child support payments. Lenders like to chat with the business owner… search google etc. If you don’t have the chance to meet in person – communication over the phone is what they depend on to make sure you are legitimate.
With so many variables being considered, in a small business owner’s favor, commercial lender approval rates are extremely high.
Why May a Business Get Rejected?
There are a number of reasons the business may not be approved for financing but the most common include: open bankruptcy, open and large tax liens, collection issues regarding child or spousal support, and history of not paying creditors.
Have you ever applied with a lender or a bank? Mentioned above Lenders review the entire business to give everyone a fair chance that is why their approval rate is 80%. However banks on the other hand are not so generous. Banks have a much more restrictive underwriting process and typically reject over 70% of their applicants.
Preparing for a Program
As previously mentioned the monthly payment is most important in determining whether or not a business can afford a financing program. You also must think in short and long terms. There are different terms for different equipment and financial needs. Technology, POS, management and inventory software are shorter terms, i.e. make payments for 12-24 months. Equipment is in the midrange with terms lasting from 24-36 months. Vehicles, agricultural equipment, tanks and production machinery have the longest terms: 36 months and longer. Keep terms in mind when selecting a financing program. Lower payments for a longer time is not always the most favorable selection. We usually suggest shorter terms with a slightly higher payment if your business can afford it.
To determine if your business can afford financing, ask yourself these questions:
Does the business have a strong portfolio? Is there a steady cash flow? Is a good vintage expected from this season’s crop? Are sales projections on target from the previous year’s batches? Is the business growing or slowing down?
Let’s use Sunrise Winery as an example. They need to replace their i40 to an i80 crusher destemmer to keep up with the increase in production. The cost of this new machine is $45,000. Sunrise Winery received a financing quote with a 60 month term and a monthly cost of $950. Sunrise checks their budget and decides they can in fact afford $950 per month for 60 months for the upgrade.
Voila! It’s as simple as that!
The Application Process
Now that you have an understanding of what financing is all about – let’s take a look at the financing process from start to finish.
- Apply. Lenders will need to collect business background information in order to run a credit check.
– If working with a non-Bank finance company typically only a 1 page application is needed up to $150,000.
- Submission of Bank Statements. Lenders will ask for 3-6 months bank statements of all accounts in the business owner’s name. Having this information ready when applying will quicken up the approval time.
– If working with a Bank, be prepared to provide 2 years tax returns, Financial Statements, Personal Financial Statement, and Year to Date Financials.
- Once all information has been submitted and reviewed by a Lender, Approval will be granted along with finance program options.
- Once accepted, official finance documents will be generated and the equipment vendor (lessor), lessee (financing party) and the Lender will each have to sign the financing contract.
- Lastly equipment will be ordered and delivered to the lessee. The Supplier (Equipment Seller) is paid by the Financing Company (Lender).
We hope this gives you a better understanding in what to expect when jumping into your equipment financing journey. Our team of experts at Innovative Lease Services, Inc. is available for questions or to get started. Please give us a call at 800-438-1470 or visit www.ilslease.com.