An entrepreneurial journey is a multifaceted one. One of the many considerations an entrepreneur must make is that of funding the venture. While avenues for funding startups, small and medium enterprises are many, the Federal Reserve’s Small Business Credit Survey conducted in 2021 shows that the acceptance rates for business loans are a mere 57%. In addition, Fundera shows that 56% of small businesses apply for business loans, with a rejection rate of 9%, while 14% of the applications are left with partial lending only. While these numbers seem meager, it is also true that 48% of small businesses overall have financing needs met.
Bank lending is usually the most sought out option for small businesses to fund their ventures. Given this, we consider the reasons behind business loan rejections and what you could do to up your chances of not being met with one.
Also Read: Factors That Affect The Eligibility For Small Business Loans
- Credit score
According to Fundera, 36% of the small businesses denied a portion of the business loan applied for due to a poor credit score. A benchmark rate for a credit score is usually 30%; however, it may differ from lender to lender. This makes it essential to check your credit score with a reputed, credible credit rating agency. It is possible to have a low credit score associated with a successful venture. It is possible to take specific basic steps after assessing the score to improve it.
- Leverage-the degree of debt
Although leverage is a cost-reducing financing tool, too much leverage may affect a business’ propensity to lend to your venture since it implies pre-existing debt obligations. Considering a credit score of 30%, potential lenders typically consider it safe to lend if you use no more than 30% of the total credit available to you. Paying off previous debts, borrowings, and business loans may help, which is essential in improving your credit score.
Usually, business loans put in a condition of an inevitable, necessary turnover a business must generate quarterly, half-yearly, or yearly. A benchmark amount of turnover attests to the viability of the enterprise.
Also Read: 5 Best And Fast Small-Business Loans
- Cash flow
Assessing the lender’s creditworthiness usually entails conducting due diligence on certain documents representing the venture’s financials. Some of these may be to establish the record of cash flow maintenance. Lack of cash flow may appear as an inability to repay the loan timely. Cash flows reflect the ability to meet other expenses and liabilities once operating expenses are covered and signify the firm’s liquidity position. Although sufficient liquidity can also be proven through other short-term assets in place, cash flow serves as an indicator of liquidity since cash is the most liquid asset an enterprise can possess. Cash flows can be improved by maintaining proper invoicing, setting up emergency funds, and devising wise short-term investment strategies that regularly bring in returns in the intermediate periods.
Investors usually look for tangible assets as securities for providing business loans. These assets serve as guarantees in case a venture fails to repay its business loan. The lender can then recover the lent amount by liquidating assets serving as collateral. If a business does not have its assets, the entrepreneur may have to offer personal assets as collateral. In the case of collateral absence, it seems viable to look up unsecured business loans. However, they usually come with higher rates of interest.
Also Read: Need Money Fast? 4 Options For Small Business Owners
- Life of the business
Availing a business loan involves establishing creditworthiness and repayment capacity. Having a decent presence in the chosen industry within a niche hints at the continued operations of your business. In addition, sanctioning business loans require due diligence to be conducted on the part of lenders. If a venture cannot produce previous records that allow lenders to undertake the necessary analysis, business loans may be denied to the venture. The newer the business, the riskier it appears to the lender to provide funds.
- Business planning
A business plan showcases a spirit on the part of the entrepreneur to continue the business. Business loan providers look at strategies to continue the business indefinitely since the lack of one puts repayment obligations into question at any juncture. Assessing market factors, taking prudential decisions based on uncertainties, and chalking out a path for the venture to sustain may sanction a business loan for your enterprise. The plan must appear promising to the lender and generate enough returns to serve as an incentive to be associated with the business.
- Purpose of the loan
Many facets are associated with an enterprise that requires funding—the purpose of business loan matters when making the application. Lack of clarity on this may cause a lender to offer immediate rejection on the business loan. It is crucial to state the purpose of lending clearly. Business loans are usually available for financing expansion, purchasing essential equipment, and developing a new product. It is equally important to ensure that you apply under the correct type of loan with clarity regarding the purpose.
- Industry of operation
Economic and market factors often affect investors’ decisions. Specific agriculture-based sectors, manufacturing industries, or specifically restaurants are usually deemed risky by traditional lenders. If your business loan application gets rejected on the pretext of operating within a complex industry, you can approach an industry-specific lender.
- Loan amount
Usually, the more money applied for, the greater the chances of a business loan approval. This happens as traditional lenders don’t consider the costs of serving lower amounts of loans worth it. In this case, you can either revise your valuation and ask for a more significant amount or approach other lending sources.