The banker behind the curtain

How your business loan application is evaluated.

I have had many customers apply for business loans through the years. The other day, a client was telling me how intimidating the idea of applying for a business loan was to him. I asked why. He then described his perspective of an intimidating process – “I provide a lot of financial paperwork to the bank, answer questions about my business and my experience, and then wait for the banker to come back with either a yes or no.”

I thought about it, and he was right. From a customer’s perspective, that’s all they see. But there are a lot of variables that go into the decision-making process of a business loan. So I thought it might be helpful to share a little more about how business loans are evaluated. Let’s peek behind the curtain a bit…

The most important thing to remember is that banks want to make business loans. We want to help our customers succeed. But at the same time, we have to be responsible and minimize risk to the bank. When you submit an application for a business loan, we will evaluate it using some version of The Five Cs Of Credit – Character, Capacity, Collateral, Capital, and Conditions.

CHARACTER – Often this has to do with the history of your business, reputation in the community, credit scores, and any other knowledge we might have about the character of the you, other principals, and the business in general. Ultimately, we want to partner with people and businesses who show integrity.

CAPACITY – This is your ability to repay the money you are borrowing. In other words – the cash coming in from your business operations. We usually look at your EBITDA (Earnings before interest, taxes, depreciation, and amortization) and then divide that by your annual debt payments. This number tells us if your business will be able to make the loan payments comfortably after all your expenses are considered.

COLLATERAL – You’re probably familiar with this – collateral is how the bank secures your loan. Think of it as what the bank would have to sell to recoup the money it loaned if you can’t repay it. If you think of it this way, it can help you better get in the mind of the banker as they evaluate your loan.

CAPITAL – This is the equity in your business. Consider it your business’s “net worth.” If your business loses a big customer, or the industry experiences a downturn, the bank wants to be sure your business has a strong enough net worth to survive by drawing on its reserves. The bank will also look at how much you’re putting into the project for which you are borrowing. If you’re buying a building for $200,000, and you’re investing $100,000, this shows us you have a lot of skin in the game.

CONDITIONS – This can be a major consideration as we look at your application. What is the current business environment surrounding your business? Imagine how differently bankers evaluated loans during the depths of the Great Recession of 2007. The conditions don’t have to be extreme, but simply enough to make the bank feel that they might affect your business in some way – either positively or negatively. A couple examples of conditions to be considered would be the closing of a major job provider in a community, the impending arrival of a large company, highway openings/closings, local ordinances/regulations, etc.

This is a simplified but good overview of what we bankers do when we evaluate your business loan application. Hopefully it demystifies the process a bit. If you have any other questions, don’t hesitate to ask me – I help business owners and managers navigate this process every day. Stop by or send me a message.