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Before my wife and I bought our shop in Sherston I worked for Lloyds TSB. One of the most interesting roles that I undertook involved setting up the Bank’s small business lending policy based on a risk scoring system.
The reasons that small businesses may need finance from a bank can cover many events. The circumstances can range from a modest increase in overdraft that may not need a meeting with a bank manager to a substantial investment which could have a major impact on the overall business model involving substantial detailed planning and meetings. Regardless of this there are a number of common issues, which, if taken in to account and accepted, should help considerably to a successful outcome.
First and foremost, even before you make a request, it must be accepted that the bank will have already assessed your business as either low, medium or high risk and that this will have a major influence as to the success or otherwise of any future lending request.
If your business consists of one shop and turnover is less than £1 million, the bank’s most important assessment tool is the conduct of the current account, particularly across the previous 12 months. If a lending request is only modest, say up to £25,000, it is likely that the decision will be an automated credit scoring result based on account conduct and clear credit searches on the business principals. The major determinants will be a combination of satisfactory account conduct and no adverse trends, such as reduced turnover passing through the account or increased use of any overdraft limit. Unauthorised use beyond an agreed limit or unauthorised overdrafts will be viewed very seriously and will probably result in the decision being “referred” or declined. The major issue to take in to account therefore is to try and maintain your current account in good order at all times.
For larger businesses, account conduct is supplemented by financial account ratio analysis based on a number of years profit and loss accounts and balance sheets plus non-financial assessment of the owners. The bank’s analyse these to identify strengths and weaknesses to arrive at an overall risk rating. Four basic financial assessments are made. If any of these are particularly weak, it will probably result in a request being turned aside or conditions applied. These are:
Is there enough capital in the business to place it on a firm foundation? The most common problem is for all profits to be continuously withdrawn and the bank is asked to take all the risk. A usual benchmark is for bank borrowing to be no higher than the stake provided by the owners
Can cash be made available to cover short term blips. One of the most common reasons for businesses failing is not lack of profits, but lack of cash.
Profitability of the business. An important component but NOT the sole component.
Ability to repay debt. The higher the debt burden, the higher the break even to service the debt (known as gearing or leverage)
The golden rule from the above is try and keep your financial accounts in good shape even though you may not be contemplating an immediate request for money. Your accountant should be on a similar wavelength and should be able to guide you through.
Assuming that the above are satisfactory, the bank will then be in a position to assess your request.