AS a banker and SME advocate, I’m always asked about how to secure a bank credit. To an entrepreneur, bank loans represent a versatile source of funding for the venture. It can be short- or long- term, fixed or floating, demand or with a fixed maturity, and secured or unsecured. It can be tailor fitted to your needs. Obtaining it, however, poses a major challenge.
Banks are conservative because the profit margins, especially in today’s low interest regime, are limited. Traditionally, bank source their funds from their depositors and the lending rate to borrowers represents a mark-up or spread over its cost. Of course, pricing is more complex these days as banks aim to get a risk adjusted return on their invested capital. The bottom line is that one or two bad loans can wipe out earnings from a portfolio of loans. Understandably, small business loans tend to be rationed out.
Still, it is possible to secure bank funding with some effort and diligence from the entrepreneur. The starting point is developing a financial footprint and establishing a relationship with a bank, specifically with the branch manager and relationship officer. The entrepreneur must lay the groundwork.
Small businesses who eventually succeed will go through a life cycle. The typical stages in the business life will run through startup, introduction, mezzanine, consolidation, growth, and maturity. At the startup stage, one cannot expect bank loans to fund operating loss, research and development, marketing campaigns, and the like. These are usually filled up by equity financing or through the so-called 3 Fs: family, friends and fools. The third F can represent venture capital financing, if available. Unfortunately, there is dearth of such in the Philippines.
The reality is until the business is stabilized, the banker will probably not lend much money. But the astute entrepreneur must begin early in cultivating a banking relationship, ahead of the actual need. You must build trust. Open a checking and other accounts and use whatever bank services are available for payments. The transactions of your business should go through said accounts and it will build your financial footprint. The idea is to develop a track record, stimulate interest and attention.
Once the business starts gaining traction, you can start exploring more formal financing. This usually becomes available at the mezzanine phase. At this stage you should have demonstrated proof of concept of your venture with a developing and prospective customer base. Your production or service delivery system should have passed initial birth pains. Your attempts at sowing the seed may bear initial fruits.
Remember, however, that your early journey should have considered the compatibility of the bank. What is its attitude towards the type of business you are building? What is the bank’s risk appetite, especially for the industry segment and size you represent? Not all banks are created equal.
You must understand the language of bankers. They are usually trained in credit and one is likely to be subjected to a review along the five C’s of credit analysis — character, capacity, capital, condition and collateral. Study how these are analyzed and make sure you can satisfy the review along those lines. Banks will have different approaches or evaluation process as they have varied risk cultures. But the fundamentals should be the same.
In reviewing a potential bank partner, do not just rely on what is in the advertisement and other pronouncements by the bank itself. Talk to as many possible resources you can — business people, accountants, industry associations, local support units. Oftentimes, it helps if you are referred to the banker by a common third party. They say that in our country, there is a 6th C of credit — connection.
Assuming you now think you are ready, be prepared for the loan application process. Secure the typical application form and fill it out well. Bankers are aware of the problem of information asymmetry and will subject you to its regular know your customer or KYC process and due diligence. It is important not to hide critical information that are discoverable.
In filling up the application form, analyze yourself from the lender’s perspective. Are the 5 C’s adequately met? Your formal application should be well formulated to answer the purpose of the loan, how it will be repaid, provisions for contingencies, the prospect of your business, and other key information.
Remember the goal is not just to win the trust of your banker but to help him/her build a case for you within the bank. The approval process moves beyond your contact and your relationship officer should be your ally. Equip your contact with information that will help build your case.
Once you have submitted your request, the bank will go through its internal process. Your hope is that it will result to your banker returning to you with a proposed term sheet outlining the terms and conditions of the loan. It is an offer, but remember it allows some room for negotiation. Understand what is important to you and to your banker. And always have a long-term view especially if you think this is the start of a potential win-win relationship that will help propel your venture.
Benel D. Lagua was former executive vice-president and chief development officer at the Development Bank of the Philippines. He is an active FINEX member and a long-time advocate of risk-based lending for SMEs. The views expressed herein are his own and does not necessarily reflect the opinion of his office as well as FINEX.
