Loan Types and Amounts

• Business Line of Credit

What kind of loan is most commonly used to provide working capital?

A Business Line of Credit (Line) is designed to meet the short-term working capital needs (inventory purchases or to pay operating expenses).

A Line is one of the most common forms of financing offered by financial institutions. Generally, collateral and loan guaranty are not required for approval, unless the applicant’s basic credit criteria is not met. If a business is in process of purchasing a fixed asset or obtaining permanent working capital (over one year), a Line will not be the best financial tool. Alternatively, a term loan would be the most preferred form of financing.

Amount

The amount of the Business Line of Credit (Line) will depend on the firm's historical and/or projected annual revenues and cash flow. A positive cash flow will be required. This means the firm has to be profitable and demonstrate that debt can be repaid on a regular basis.

The Line amount will be determined by the firm's total revenues and cash flow. If a firm's revenues are only $100,000, it will be difficult to qualify for a $100,000 line unless the firm projects increased revenues and cash flow. The firm may borrow up to the maximum amount approved. This may be done in one lump sum or incrementally.

Repayment Terms

A Line is generally revolving and therefore will have no fixed terms. Its first year repayment terms may require only monthly interest payments to be made.

Typically, a Line will require full payment (principle and interest) of the amount drawn prior to the maturity date.

The business may repay any amount borrowed and re-draw funds as needed without exceeding the authorized amount.

Collateral

Collateral, in general may not be required unless credit criteria is not met.

Financial Statements

Certified business and personal tax returns for the past three years, personal statement and other supplemental information are required for this type of financing. These documents should be ready prior to submission of an application.

 

• Term Loans (Cash Flow Financing)

When is a term loan used and how is cash flow evaluated?

A term loan is used when a business borrows money for a period exceeding one year. Term loans, in general, are considered long term financing. Examples of long term borrowing needs include equipment purchases, change in ownership and new business acquisition.

Financial institutions and other funding sources evaluate a company's cash flow for long-term borrowing needs. The company's cash flow is evaluated to structure a term loan. It is important to structure the term loan so that debt repayment matches the business' cash flow. The approval and amount of the loan depends on the adequacy of the firm's:

(a) Historical cash flow,
(b) Projected cash flow, and
(c) Adequate debt coverage.

A lender’s primary focus is to evaluate if the business generates sufficient cash flow to repay its debt.

The term loan is a lump sum disbursement with payback over a specified period of time. The debt coverage ratiorequired will vary depending on each financial institution's lending parameters. However, generally the debt coverage ratio required will be between 1.50 to 1 to l.25 to 1.

Debt coverage of 1.5 to 1 is calculated as follows:

(Net Income + Depreciation Expense + Amortization + Interest Expense)/(Current Portion of Long Term Debt + Interest Expense)

Cash flow is generally defined as the net income of a firm plus non-cash expenses. The non-cash expenses will include depreciation, depletion and amortization, which are accounting deductions not paid in actual dollars and cents.

 

• Micro Loans (up to 50k)

Micro loans are generally for start-up businesses or for a company who has annual revenues less than $100,000. Micro loans may be processed by financial institutions and may not require a government guaranty, unless risk factors need to be mitigated.

A micro loan typically does not exceed $50,000 in financing. Micro loans are frequently used for working capital, inventory and equipment. The loan maturity date depends on whether it is for short or long term purposes. It is considered short-term capital if due within one year or long-term capital if due over one year.

Repayment terms:

Terms vary from one year to three to five years, depending on the purpose and terms of each financial institution.

Collateral:

Collateral is generally not required unless credit parameters are not met.

Financial statements required:

Certified business and personal tax returns for the past three years, personal statement of owner and other supplemental information as requested.

 

• Basic Loan Request (100K or less)

What are some basic loan requirements?

The basic requirements to obtain a loan up to $100,000 include a satisfactory credit history (business and personal), adequate cash flow to repay debt and track record of two to three years.

Meeting the following criteria will enable a company to be seriously considered for loan approval (up to $100,000). The amount of the loan will be determined by evaluating the revenue and cash flow of the business.

These are the most common loan applicant requirements for standard debt financing:

• Business needs to be established for a minimum of two to three years.
• Satisfactory business and personal credit history. The term "satisfactory" is subjective and based on a lender's minimum credit scoring profile.
• No bankruptcies within the last ten years.
• A profitable business with sufficient cash flow to meet both new and current financial obligations (debt repayment).
• Collateral may be required, depending on the lender's credit criteria.

 

• Equipment Loans (Over 100K)

How much can you borrow for an equipment loan?

Equipment financing is easier than other forms of financing because the asset to be acquired becomes collateral. This is even more favorable to the borrower particularly when the equipment is general purpose with limited obsolescence.

Equipment loans vary in terms of borrowing amounts. Equipment financing includes business vehicles, computers, electronic technology, tools or other fixed assets. The amount of the loan depends on the cost of the equipment/ fixed asset purchased or refinanced and the advance rates to be provided. Aside from the value of the equipment to be financed, the amount of the loan will depend on the firm’s historical and projected revenues and cash flow. A debt coverage ratio of at least 1.25 to 1 or a minimum of 1 to 1 will be required.

Advance Rates:

---Advance rate or the amount of the loan varies.
---If the equipment is new and general purpose, advance rates may be 100%.
---Advance rates on used equipment will vary from 75% to lower, depending on the type of equipment. With equipment, especially computer and electronic technology, the obsolescence of the equipment is a consideration when advance rates are determined.

Repayment Terms:

---These terms generally match loan purpose and life expectancy of the equipment. The life expectancy for computer equipment is monitored. By payoff time, the computers may become obsolete with limited liquidation values.
---Collateral is comprised of equipment purchased or refinanced. It may include all business assets.

Financial statements required:

---Copies of certified business tax returns for the past three years, interim business statements (balance sheet and income statement) and projections for three to five years.
---Depending on the amount and financial strength of the business, a personal guaranty may or may not be required. If a personal guaranty is required, then the owner/owners are required to submit personal statements and tax returns.

 

• Asset Based Financing (250K - $1Million)

What is Asset Based Financing?

Asset Based financing is a loan product that is secured by specific accounts receivable. Financial institutions, specializing in Asset Based financing, advance funds to your company based on the “quality” of your firm's receivables. Funds will only be advanced on "commercial receivable accounts."

The loan amount is influenced by the quality of the commercial receivable, aging and turnover of the receivables.

Asset-Based Line of Credit may be considered nontraditional lending but it is not a Factoring Line - where the receivables are sold to the financing entity at a discount.

Repayment Terms/Advance Rates: The Asset Based Line of Credit (Line) will generally be set up with an annual maturity date. The Line may be either a Revolving Line or with a formal borrowing base with advances made on eligible account receivable. Advances may range from 75% to 85% of eligible business receivables, depending on the quality of the receivables.

The Line will exclude receivables over 90 days from the invoice date, contra, foreign accounts and possibly government receivables.

How can you include government or foreign receivable as eligible receivables?

Government receivables may be included if an assignment of claim is taken for each governmental agency.

Foreign receivable may be included if covered by foreign credit insurance (such as EXIM Bank's Export Credit Insurance Program).

Inventory advances may also be made up to 50% or higher provided the inventory is a finished product or raw material that is readily marketable.

Collateral

An asset-based line will be secured by account receivable, inventory and possibly other business assets.

Financial Statements Required

Financial statements and personal tax returns for the past three years, interim financial statements (current within 90 days) and personal statement, if a guaranty is required. Monthly or quarterly accounts receivable aging and payables may also be required.

Other Requirements

Generally, the financial institution will require an audit (annually or possibly quarterly) to determine the quality of the collateral and the company's accounting practices. There is a fee charged since this requires an independent audit by a third party.