August 19, 2022

You’re the Boss: What Some Banks Don’t Want You to Know

Thinking Entrepreneur

Several weeks ago, the top small-business bankers at Wells Fargo agreed to take questions from You’re the Boss readers. For reasons that escape me, I’ve found that bankers are often reluctant to tell small-business owners precisely what they expect from borrowers, so I couldn’t resist contributing a few questions.

Hoping it might be useful to all small-business owners, I asked for specific guidelines that relate to the minimum requirements the bankers look for when considering a loan. I referred to the well known “Five Cs” of credit: character, cash flow, collateral, capital, and conditions. Basically, I asked the bankers to pretend that there were no public relations people or lawyers in the room and just tell us what they really want from us. For example, how do they define good character? Is it O.K. if you’ve been married four times? What if you don’t go to your son’s baseball games?

Somehow, the bankers managed not to answer any of my questions — although they did mention that it was a good idea to clean up your credit report. Gee, thanks! I can’t tell you that I understand the downside of giving owners some real insight into what banks are looking for. Maybe the bankers don’t want to take a chance on scaring anyone away, but it seems to me it could save us all a lot of time. And judging from the comments, I’m not sure they did themselves any favors. Because I think this is important information, I asked my own banker if he could shed some light on how his bank evaluates loans. He is Matt Sloan, from American Chartered Bank, a mid-sized bank that specializes in small-business lending and has locations around Chicago. Here are his thoughts:

Deciding whether to provide credit to a business can definitely be as much art as science, but there are some material factors to consider:

1. How much equity or net worth does the business have on its balance sheet? This is extremely important as we need to know what happens if the company has a rainy day or if our economy goes through another recession. Does the business have enough capital to survive if it loses a major client? On the same note, what is the overall leverage (debt to equity) of the company? Less than four to one? That’s fair. Three to one? That’s good. Two to one? Excellent. If a business makes $100,000 and the owners pull out $200,000 in distributions, then the company actually lost $100,000 from our perspective. (Believe me, we see this happen.)

2. What type of collateral is supporting the loan? I don’t see many banks providing unsecured loans in today’s climate so there have to be enough “eligible” receivables (90 days and under), “clean” inventory (sellable), equipment and/or recently appraised real estate to cover the loan amount.

3. Cash Flow. The years 2008 and 2009 were rough for many businesses, so if you were able to survive and rebound in 2010, more power to you. We analyze the past three years to understand trends, but we completely understand how difficult the economy has been. So, if a company has turned the corner and can show that its cash flow can support its debt payments at a multiple of 1.2 or 1.3 (meaning that it is taking in at least 20 percent more than the debt payment), the it is a good banking candidate.

4. Character. Do I want a new client who doesn’t return phone calls and doesn’t treat me or my team with respect? No. I want to work with solid, ethical people who are looking to build long lasting relationships. End of story. It’s better for both sides.

5. Conditions are a tricky topic because a good company can perform well in a bad economy (and vice versa). So, let’s leave that one alone.

I hope this clears up some of the confusion surrounding the crazy banking environment we live in.

Thank you, Matt. I will add one more thing. I found American Chartered Bank through my accountant. He knows which banks are lending, what they are like to work with and what they are looking for. And he has a relationship with the banks that the banks don’t want to mess up. If your accountant can’t help you, and you need to borrow money, it might be time to consider finding a new accountant. If you are looking to borrow money, you probably need an accountant who does more than your tax return.

Jay Goltz owns five small businesses in Chicago.

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