Funding Your Business

By Jim Hingst

Jim Hingst is a contributing writer for Sign Builder Illustrated magazine.

Everyone needs cash to open a new shop. To fund your business, you can beg and borrow from your friends and family. You can apply for a loan from a bank or online lender. Or you can scrimp and scrape until you have enough cash to self-fund your business. In most cases, that’s your best option.

 

Asking your friends or family for a loan often seems like the easiest and least painful choice for startup money. While you may have the best of intentions and your family may be willing to help, don’t do it. As Polonius advised his son in Hamlet: “Neither a borrower nor a lender be;/ For loan oft loses itself and friend.” If you fail to pay a loan back, the lender loses his money and you lose a friend. What’s worse, is the shame of losing money that your family loaned you. When that happens, you might as well pack your bags for parts unknown. 

 

The Advantages of Self-Funding. According to Mark Cuban, “only a moron starts a business on a loan.” That may seem a bit harsh. However, Cuban has a point. Your best bet is to save your money and fund it yourself. Start out small. And live within your means.

 

As you are building a nest egg, another great piece of advice is “don’t quit your day job.” As you are working for your employer, prepare for the opening of your business. Unless there is a conflict of interest, you might consider starting your business on the side. This will give you time to build your customer base and build a nest egg until you are ready to go it alone.

 

If you are working for someone else, devote your spare time to learning your business better than anyone else. As Mark Cuban says, the primary reasons people fail are stupidity and laziness. If your competitors know the business better than you do, they will eat your lunch. The key is not only to work harder than the next guy, but also to work smarter.

 

In a perfect world, self-funding your business is generally great advice for startups.  However, in the real world, many entrepreneurs who launch a new business need to borrow money at some point. That may not be for a of couple years because banks typically don’t fund startups.

 

On the other hand, banks generally view new ventures favorably if the owners self-fund the business during the first years. It tells the lender that you believe in yourself and your vision for the business. Why should anyone else invest in your shop, whether it is a bank, your family or your friends, if you aren’t willing to put your personal money at risk.

 

As a business owner, you have to deal with tremendous pressure at work. Taking on a loan can subject you to additional pressure that can affect your physical and mental health. If you have a family, your relationships can also suffer.

 

To make matters worse, if you fail to make a payment, it can affect your credit score, making it difficult to secure additional funding, not only for your business but also to get loans for a home or car.

 

Taking out a loan may seem easier and provide more advantages than self-funding. In most cases, you would be wrong. The main disadvantage is that you must pay back the loan with interest.

 

To make matters worse, failure to repay a loan opens you up to liability. If you have set up your business either as a sole proprietorship or as a partnership, you are personally responsible for failure to repay your business loans. In these cases, lenders can seize your business assets as well as personal assets such as furniture, cars and even your home, to cover any debts that your shop accumulates. 

 

Your best financing option is to self-finance. That means that you need to save enough money to get started. What’s more, it also means that you will probably start out small. That’s OK. If you work harder and smarter your business will probably survive.

 

By financing your own business, you avoid the additional pressure of making loan payments. It gives you more time to worry about your shop operations and marketing your services instead of worrying about the money you owe someone else.

 

Types of Business Loans. Lenders provide many different types of business loans to small businesses. Each type has advantages and disadvantages. Which type of business loan is appropriate for you relies on several factors. Most importantly, the right loan for you depends on what you need it for. Other factors include how quickly you need the money and for what period of time. Some of the types of funding available include business term loans, SBA loans and a business line of credit.

 

Business Term Loans. If you are looking to expand your business, a business term loan can provide you with a lump sum of cash to fuel your enterprise. This standard loan covers a fixed “term” or specified period of time, usually between one and five years. The term for buying real estate can be as long as 25 years. Over the life or term of the loan you will make fixed installment payments.

 

Business term loans are generally used to purchase long-term assets, also called fixed assets, such as real estate, shop equipment and vehicles. This is not the type of loan that you will use to buy short-term assets, such as inventory.

 

Getting approval from either a bank or online source is generally easier and faster than other types of loans, if your business is well-established and has a good credit rating. When applying for this type of loan you should have all of your financial statements, tax returns and bank statements available for the lender.

 

Prior to applying for a loan, check your personal and business credit rating. Lenders use credit scores as a barometer of the likelihood that you will pay back the loan on time. FICO (Fair Isaac Corporation) is one brand of score. The rating ranges from 300 to 850.  The higher the credit score, the better. Banks use this rating in determining whether or not to grant a loan, as well as deciding the credit limit and interest rate for the loan.

 

Your business may also have a credit rating, especially if your company has borrowed money in the past or has been issued a business credit card. Your payment history with utility companies or with any vendor or distributor who has extended you credit, will likely affect your credit score.

 

While you can use term loans to obtain larger amounts of financing, you very likely will need collateral, such as real estate or equipment, to secure this type of funding. Loans from online sources are usually faster than getting a loan from a bank, but interest rates are typically higher.

 

SBA Loans. The SBA or Small Business Administration is not a lender. Instead, this government agency works with banks and other lending institutions to help small businesses obtain SBA-guaranteed loans. In the loan approval process the SBA sets the guidelines, although the lender usually has some of their own credit policies.  

 

There are many different types of SBA loans. More than 75% of these are 7(a) loans. Within the 7(a) category are several variations of loans such as the 7(a) Small Loan and the SBA Express Loan.

 

A SBA 7(a) loan can fund a wide range of business activities. These include purchasing equipment, business expansions, acquisitions, buying real estate or providing your company with working capital.

 

What makes these loans attractive are the loan rates, which are some of the lowest rates on the market. These rates range from prime +2.25% to prime +4.75%.

 

The repayment terms for 7(a) loans can also be attractive. Repayment for equipment is up to 10 years. Loans for working capital can be as long as 7 years. Down payment for an SBA loan may also be significantly lower than with a conventional loan. In addition, fewer fees, if any, may apply.

 

The downside of an SBA loan is the qualification process. A standard loan can take as long as 6 weeks for approval. In some cases, it can take months.

 

The length of time for the loan approval sometimes depends on whether you are dealing with a preferred lender or not. A preferred lender, which includes most major banks, can make its own credit decisions.

 

On the other hand, a non-preferred lender acts as a go-between you and the SBA. For this reason, the qualification process, when using a non-preferred lender, can be quite lengthy.

 

Your chances of getting a 7(a) loan are about 65%, which is typically better than getting a regular bank loan. To qualify for a loan, you will need a good credit score (over 650) and have been in business for a minimum of two years. You will also need to put up collateral for the loan and sign a personal guarantee.

 

Business Line of Credit. It doesn’t matter how big your shop is, sometimes the spaghetti just hits the fan and you run into a cash flow problem. For that reason every company should establish a business line of credit with their bank.

 

The line of credit gives you the flexibility to write checks so you can buy inventory, pay operating expenses and make payroll. It is not intended to finance the purchase of real estate or shop equipment.

 

The line of credit is a type of short-term loan that covers your checks when the well temporarily runs dry. To cover the amount needed, the bank charges you an interest fee. Generally, this fee is at a much lower interest rate than other types of loans because it is comparatively low risk.

 

New businesses are generally required to secure a line of credit using personal assets such as real estate as collateral. If you have a partner, both of you will most likely need to put up personal assets as collateral.

 

Until your shop becomes financially stable, some will banks extend your company an unsecured line of credit. In most cases, to get a business line of credit without a personal guarantee, your shop needs to have been in business for a couple of years, have strong revenues and an outstanding credit report.

 

As an alternative to traditional banks, you can also get a business line of credit from online alternative lenders. These institutions have different practices for evaluating your credit worthiness. Alternative lenders will check your banking activity, and have different standards for the revenue that your shop generates.

 

Generally, you can get approved for an online business line of credit much faster than going to a bank. Make sure that you investigate the repayment terms as well as all of the fees that an alternative lender may charge you, such as an inactivity fee.

 

Business Credit Card. If you don’t have a business credit card, you should get one. Then make sure that you pay off the balance each month in full. This helps improve your business credit rating. A good rating increases your chances of getting a loan at a good interest rate.

 

Before applying for a business credit card, compare the advantages of the different cards. Your comparison should include spending limit, interest rate, rewards and annual fee. Generally, business credit cards have higher credit limits and lower interest rates than personal credit cards. Business credit cards also have some great perks, such as memberships in airline lounges.

 

In selecting a business credit card make sure that it reports to the major credit bureaus: Dun & Bradstreet, Experian and Equifax. One of the best cards is the American Express Business Platinum Card®. At $595, the annual fee is high compared to other cards.

 

Equipment Leasing. When acquiring new equipment such as a wide format printer, one of your key decisions is whether to buy or lease. One advantage when leasing is no down payment is required. What’s more, at the end of the lease term you can either buy the equipment at a discount or you can upgrade to the next latest and greatest technology.

       

Equipment Financing. Financing business equipment is a type of business loan that is strictly used for buying equipment.  This type of loan is not quite as difficult to obtain as other types of loans, because the equipment you are buying is in itself collateral for the loan. That way it is less of a risk for the lender.

 

If you are borrowing money for equipment, explain to the lender exactly what type of equipment you want to buy or lease, its cost and why it is important for your business.

 

Tangible assets, whether they rapidly become outdated or not, depreciate over time. In some cases, leasing makes more sense than purchasing - if the equipment has a relatively short lifecycle. For example, it may be wiser to lease digital printing equipment because the technology changes quickly.

 

In financing equipment, lenders look at three key factors, your credit score, annual revenue and the length of time in business. Because the equipment serves as collateral for the loan, you may qualify for financing even if your credit score is less than ideal.

 

However, if your business is a startup or you have been in business for fewer than two years, getting approval for a loan may be difficult. Lenders may also require a down payment before approving financing an equipment purchase.

 

When deciding whether to buy or not to buy, these are the questions you should ask:

 

• Is the equipment a necessity for staying competitive in your market?

• What increase can you realize in employee output?

• How will the equipment improve the quality of your finished goods?

• What improvement in sales and profits will you generate?

• How long will it take to pay for the equipment?

 

An advantage to leasing is that lower initial cash is required. What’s more, leasing packages will occasionally cover maintenance. In some cases, lease payments are tax deductible. However, depreciation of leased equipment is not deductible.

 

When buying equipment your best option is to pay cash and avoid the headaches involved in the loan process. Of course, that usually isn’t practical. Paying cash depletes your working capital, which is the money you have on hand to pay your current financial obligations. These obligations include paying vendors and utility bills along with paying your employees.

 

If you are considering paying cash when buying equipment, you need to estimate whether you will have sufficient cash following the purchase.  To determine your working capital needs you should track your monthly inflows and outflows of cash. With this data you can anticipate sales and expense trends.

 

The 5 Cs of Business Credit. In the approval process for business loans, lenders use the five Cs of credit as their standard for credit analysis. If you want to improve your chances of getting a business loan, you need to satisfy the requirements in these five areas. The five Cs are:

 

• Capacity

• Capital

• Character

• Collateral

• Conditions

 

Capacity. In rating a business’s capacity to repay a loan lenders generally evaluate the company’s Cash Flow Statement for at least two years.  Startups, on the other hand, need to prepare a projection of its cash flow for the first year. An evaluation of cash flow statements will reveal whether your business generally has enough cash to repay its loans.

 

In addition to your cash flow statement, your lender will want to know what personal sources of income you could use to make payments, such as checking and savings accounts or even your spouse’s income.

 

Character. In deciding whether to approve your loan application, bankers will assess your “character.” This has a little less to do with your personal integrity than it refers to your credit score and creditworthiness.

 

Improving Your Business Credit Score. A less than desirable credit score dooms more than one-third of small business loan applications, or results in less than the funding requested. Two factors, which greatly affect your credit score are an existing high level of debt and having an insufficient credit history.

 

Lenders use your personal and your business credit scores as a measure of your ability and willingness to pay back a loan. Before you apply for a business loan, examine your personal and business credit scores.

 

Lenders also view your past credit history as a barometer of future financial success. From the viewpoint of a lender, a low credit score equates to high risk. Consumer credit scores are based on a mathematical model, which estimates the risk of someone going 90 days late on a payment during a two-year period. FICO scores range from 350 to 850. Lenders view scores above 750 favorably.

 

Business credit scores are connected to your company’s EIN (Employer Identification Number). Banks use credit scores from different reporting agencies, such as Dun and Bradstreet, Experian and Equifax. The models used for business credit scores predict the chances that your business will run 90 days late within a year. Some scoring systems also forecast the possibility of your business encountering a financial catastrophe.

 

The D&B score is called the PAYDEX score.  D&B bases their score on how promptly you have paid your vendors over the last two years. PAYDEX scores range from 0 to 100. Anything above 80 is a great rating. D&B also provides a rating of your company’s financial condition.

                                                                        

Some credit risk scores used a blended system which evaluates both your personal and business credit history. For example, SBA uses the FICO Small Business Scoring Service (SBSS) as a basis approving for all SBA 7(a) loans.  FICO SBSS scores range from 0 to 300. Loans are rejected for any score below the 160.

 

Many other factors are used in developing a credit score. These include the number of years in business, company assets, revenue and cash flow. The best way to improve your credit score is to pay your bills on time.

 

In determining how much credit a bank will extend to your business, they will check whether you have maintained a minimum daily balance of $10,000 for the last 90 days. Banks will also look at frequency of deposits and the age of your account.

 

Some of the factors that credit agencies and banks use are within your control. Others are not. In some cases, credit ratings take into consideration your industry and general economic conditions. You can’t control external financial considerations, so only focus on those components that you can influence.

 

Based on the information in your financial documents a lender will also make a number of critical calculations to ascertain the health of your company. These assessments include:

 

• Debt-to-Income (DTI) or Sales Ratio

• Debt Service Coverage Ratio (DSCR)

• Debt Ratio

 

While these financial evaluations are often critical in loan approval, you should also utilize them as financial key performance indicators in managing your business.

 

Debt-to-Income. Banks need to reduce their risks. To assess the ability of a business to repay their loan, lenders use a number of financial metrics. One of these measures is debt-to-income or sales ratio. Debt to income describes a relationship between what a company owes versus its revenue. A rule of thumb is that your DTI should not be higher than 45%.

 

Monthly Debt ÷ Monthly Income = Debt-to-Income Ratio

 

$85,000 Monthly Debt ÷ $290,000 Monthly Income = 29.3% Debt-to-Income Ratio

 

Debt Service Coverage Ratio. The Debt to Income (DTI) and Debt Service Coverage Ratio (DSCR) are similar but not the same. Banks use the DTI for home loans. They use the DSCR for commercial loans.

 

The Debt Service Ratio is usually (but not always) calculated over a year. It compares your net operating income to your debt service for a specified period.

 

Debt Service. Your annual debt service covers all of your payments on your loans for company vehicles, real estate and shop equipment. This includes both the principal and the interest for all outstanding loans. In many cases, debt service will be listed as an expense on your income statement, which makes it easy for a lender to identify it.

 

To calculate the DSCR divide your Annual Net Operating Income by your Annual Debt Service Payments. Your operating income equals your revenues minus Cost of Goods Sold (CGS) and Shop and Administrative Expenses. As a rule of thumb, the minimum DSCR value required for a bank to approve a loan is typically 1.25 or 125%.

 

Revenues – (CGS + Shop & Administrative Expense) = Net Operating Income

 

Annual Net Operating Income ÷ Annual Debt Service Payments = DSCR

 

Example:

$1,080,000 Net Operating Income ÷ $500,000 Debt Service Payments= 2.16 or 216% DSCR

 

Debt Ratio. Using your balance sheet, a lender can calculate your debt ratio. Your debt ratio compares your total debts (liabilities) to total assets. For example, if your liabilities are $200,000 and your assets are $450,000, your debt ratio is 44.4%.

 

$200,000 Total Debts ÷ $450,000 Total Assets = 44.4% Debt Ratio

 

In evaluating your character, a lender may check how much experience you have in your field, your reputation in the marketplace and may even ask for references. Today lenders may also check public reviews in assessing your trustworthiness.

 

Capital. Banks may also check the amount of money that you personally have invested in your business. Lenders generally believe that if you personally have “skin in the game” you will more likely repay the loan. As a rule of thumb, banks like to see that the owner’s personal investment in their business is at least 25%.

 

Collateral. When you are starting a business, one of the worst options for financing is a bank loan. You take a big risk when you take out a loan because you commit to paying the loan back on a schedule.

 

Collateral is an asset that you (as a borrower) pledge as security to obtain a loan. When you default on a loan the bank can seize the assets that you used as collateral to recover their losses.

 

To secure a business loan, you can use the following assets:

 

• Commercial property

• Vehicles

• Shop tools and equipment

• Inventory

• Accounts receivables

• Cash

• Personal property

 

Conditions. You can control some factors of your business destiny, but other factors are beyond your control. In approving your loan application, banks will take into consideration many of those conditions you cannot control. These include the effect of inflation on the economy. Many predict that we could be heading into a recession in 2022. Lenders will also evaluate the conditions within your market and your competitive environment.

 

In addressing these conditions your business plan should expound upon the opportunities available, as well as the numbers of competitors and the threats that they pose to your shop.  Your plan should also include your sales and marketing strategy and how you would respond to an economic downturn.

 

Additional Loan Requirements. If your business is a sole proprietorship or a partnership, each owner will likely need to provide personal financial statements in applying for a loan. What’s more, the owners may need to assume personal responsibility, in writing, for the loan. The reason is that sole proprietorships and partnerships are “pass-through entities.”

 

A pass-through entity is structured so that profits pass through the business to the individual owners. That way, the business does not incur income taxes. Instead, the owners do. The advantage is that you, as an owner, avoid double taxation. That’s why, more than half of businesses are set up as pass-through entities.

 

Lenders often require owners of sole proprietorships and partnerships to provide personal financial information, such as social security numbers, assets (real estate, vehicles, etc.), mortgages, credit cards and tax returns. Your bank may not require this financial information for loans less than $50,000.

 

If your business is a limited liability company (LLC) or corporation, your bank will likely require that you submit business tax returns for loans over $50,000.

 

Insurance Policies. To mitigate their risks in approving a loan to a new business, the bank may also require the primary owners to take out life insurance policies listing the bank as the beneficiary in the event of a death.

 

Tax Returns. To verify the accuracy of your financial documents, your lender will most likely require copies of your corporate tax returns. They will use the returns to ensure that there are no discrepancies with your financial records.

 

Receivables. Many sign shops require a 50% deposit upon placement of the order with the balance to be paid upon delivery of the graphics. That’s ideal because you don’t have to deal with receivables.

 

If you extend credit to your customers, your lender may insist on seeing an aging report. You can easily track your receivables using an Excel worksheet. The aging report allows you to classify receivables based on how long an account is outstanding. In formatting a worksheet, you need columns listing the invoice date and the due date agreed upon in the sales contract. With this information you can organize receivables according to 30, 60 or 90-days overdue. Lenders will use this information to evaluate the financial health of your business.

 

When selling large graphics or signage programs, payment terms are usually extended. That means that you will carry the amount due on your books. This can complicate your bookkeeping and your life. Not only does it add to your liabilities, you must keep track of your receivables on an accounts receivable aging report and, in many cases, chase after your money. Collections are often a time-consuming and unenviable task. It takes persistence and tact. Very few people are good at it.

 

At the very least you need to review your accounts receivable aging report monthly, if not sooner. Receivables are assets, which you can record on your balance sheet. They are valuable to your business because you can turn them into cash.  Once the receivable is paid, you list them as cash.

 

Sales History. Although it is not so important as cash flow, lenders often examine your sales history for the past two or three years. They will check for any trends of growth or decline.

 

UCC Liens. The Uniform Commercial Code (UCC) is a set of laws covering commercial transactions accepted by all states. As part of a business loan, lenders may require that you agree to a UCC lien. The lien protects the lender in the event that the borrower defaults on the loan or files for bankruptcy.

 

The lien establishes priority in recovering payment for debts. The document is filed with the Secretary of State and covers a period of five years. The lender must refile the lien after it expires to reestablish their rights to priority.

 

If there are multiple UCC liens on your business, priority is determined based on the dates of filing.  After you have completely repaid a loan, you should request that your lender notify the Secretary of State to terminate the lien.

 

Pro Forma Financials. In applying for a loan the lender may request that you provide pro forma financial documents: income statements, balance sheets and cash flow statements. Banks may request pro forma financials as evidence of your capacity to repay a loan.

 

As a business owner, a pro forma can help you make an educated decision when making an investment in your company. It is a projection of how your business will perform in the future. You can use pro forma financials to predict the financial impact on your shop when making an investment in new equipment, opening a new location or hiring new employees.

 

In fact, pro forma financials are nothing more than a best guess. In making a business decision you can compare projections of what might happen if you do make an investment to what might happen if you don’t. 

 

Pro forma financials are only as good as the reliability of your inputs. As the saying goes, garbage in, garbage out. Financial projections are often suspect because they are frequently used to paint a rosy picture. After all, the person creating the financials is trying to convince lenders that they should approve the loan application.

 

For this reason, when you submit pro forma financial statements, be prepared to support your assumptions as your lender scrutinizes your projections.

 

In making your projections, you may base them on a number of assumptions, such as sales and fixed expenses will increase 15% annually or that your Cost of Goods Sold (COGS) will remain a constant 20% of revenue. Using these assumptions, you can make your calculations. Here’s how a bare bones pro forma income statement might look:

 

Pro Forma Income Statement for Projected Years 2022, 2023 & 2024
	2021 Actual	2022	2023	2024
Revenue (15% Annual Increase)	$500,000	$575,000	$661,250	$760,437
COGS (20%)	($100,000)	($115,000)	($132,250)	($152,087)
Shop & Administrative Expenses	($150,000)	($172,500)	($198,375)	($228,131)
Depreciation	($15,000)	($15,000)	($15,000)	($15,000)
EBIT (Earnings Before Interest & Taxes)	$235,000	$272,500	$315,625	$365,219
Interest Expense	($30,000)	($30,000)	($30,000)	($30,000)
EBT (Earnings Before Taxes)	$205,000	$242,500	$285,625	$335,219
Taxes (21%)	($430,050)	($50,925)	($59,981)	($70,396)
Net Income	$161,950	$191,575	$225,644	$264,823

 

Defaulting on Loans. During the pandemic thousands of businesses defaulted on their loans. It doesn’t matter whether the loan is secured or unsecured, defaulting usually results in major repercussions for your shop.

 

If you have a secured loan and cannot meet your financial obligations, your lending institutions can seize the assets that you put up as collateral. Defaulting on a loan has other ramifications such as it usually damages your credit rating. This will hamper your ability to borrow money in the future.

 

In the case of an unsecured loan, you were not required to put up collateral. If your business is a sole proprietorship, your lender could come after your personal assets in order to recover their money. On the other hand, if your shop is set up as an LLC (limited liability company), the owners are protected to some degree against defaults.

 

Difficulties in Paying Back Loans. If you find yourself in a financial hole, many shop owners secure a loan to solve the dilemma they are in. The mistake that they make is thinking that they can borrow their way out of debt.

 

If you are having problems paying back a loan, talk to your lender. They may be willing to propose a solution before you default. One possible solution is to request lower payments for a time until you are in a better financial position.

 

Your Liability for Business Debts. How your business is organized, such as a sole proprietorship, partnership, LLC or corporation, can affect your personal liability.  If your shop is organized as a sole proprietorship, you and your business are one in the same. That means that if your business defaults on a loan, you are personally responsible.  Your creditors can come after your personal assets to recoup their losses. Which assets the bank can take varies from state to state.

 

In a partnership, both partners are also personally liable to pay the business’s debt. That does not mean that partners necessarily split the liability 50:50. If your partner is destitute, and you own a home, car and other assets, you may be stuck holding the proverbial bag.

 

Organizing your business as an LLC generally affords you more protection from personal liability in the event that you default on a loan. It is, after all, called a limited liability company. Of course, there are exceptions. If you used company funds to purchase an RV or a boat for personal use, your personal assets are most likely at risk. Another exception is if you used a personal asset to secure a loan.

 

Reasons Loan Applications Are Rejected. The primary reasons for loan rejections are insufficient collateral, poor credit rating and high expenses in relation to revenues. To improve your chances of getting a loan, you can take the following steps:

• Create a business plan

• Provide sufficient collateral

• Improve your credit rating

• Reduce your shop and administrative expense

• Increase revenues

 

 

How to Write a Business Plan for a Commercial Loan.

If you decide to go to your bank and secure a business loan, you need preparation. To plead your case, you need to prepare a business plan, complete with financial records and projections. If you are opening a new shop, you will also need an estimate of your startup costs.

 

The Importance of a Business Plan. According to the business axiom, failing to plan is planning to fail. That’s only good advice if you take it. Unfortunately, many new small business owners never take it. Fewer than 45% of small businesses create a formal business plan. Of those that do, about two-thirds of their business owners acknowledge the plan contributed to the success of their companies.

 

Not having a business plan is one reason that 20% of startups fail within the first year of operation. That’s really not too bad when you consider that after five years, half of the businesses have closed their doors. By the 10^th year 90% have failed.

 

Your business plan is your blueprint for creating a successful business. Develop a comprehensive plan that address key opportunities and threats.  It also requires that you understand your strengths and weaknesses as well as those of your competitors. As Sun Tzu explained in The Art of War: “If you know the enemy and know yourself, you need not fear the result of a hundred battles.” By creating a comprehensive business plan outlining your strategies and tactics, you will maximize your chances for success.

 

Taking the time to develop a solid business plan also helps in securing a business loan. Lenders analyze an applicant’s business plan to determine the chances of a new venture succeeding. Without a sound plan, the odds that you will get approval for a loan are slim.

 

A business plan should answer how your shop will overcome the primary reasons for failure. The three key reasons that account for 90% of business closures are:

 

• Marketing Problems

• Financial Problems

• Personnel Problems.

Your business plan must focus on these three areas of your business. In the financial section of your business plan, lenders not only want to review several years of past financial statements, they also want to evaluate future projections.

 

The sales and marketing section is critical because problems in this area account for the majority of business failures. Banks want to examine your market analysis, product and service offerings, sales and marketing plan and threats from competition.

 

The third most important segment of your business plan is your key personnel.  This should list the primary managers in your shop, their responsibilities and summaries of their experience.

 

Based on the information in your business plan, your bank will determine the likelihood that your shop will be successful and whether or not you will have problems repaying the loan.

 

As you are composing your business plan, think of it as your company’s resume to secure a loan. With this in mind, write your business plan to address the 5 Cs of Business Credit:  Capacity, Capital, Character, Collateral and Conditions.

 

The business plan explains your company goals as well as your strategy for growing your business. It also includes financial projections for the upcoming years. What’s more, the business plan explains why you need the loan and how you plan to pay back the loan.

 

Your business plan should describe the opportunities available to your company. It should delineate the unmet needs in your market and how your shop can satisfy those needs. To best outline those needs, you should survey a significant sample size of your target market. That means investing in the time to interview prospects and customers. 

 

After portraying the problems or pain points that prospects and customers endure, present how your product offerings and services provide a solution. In other words, define your unique selling proposition  which I cover in an earlier article.

 

Your business plan should also portray in detail your target market and market potential. You should explain the range of product offerings and advantages your shop provides.  In addition, your plan should outline your competitors. It should describe their strengths and weaknesses as well as the challenges that they pose to your business.

 

As important as a business plan is in securing a business loan, it is just as critical as a roadmap of how you will run your company. You can find templates for business plans on the internet.  Most of these formats are very similar in that each is divided into basic company operations.

 

Typical sections in a business plan include:

• Executive Summary

• Business Description

• Competitor Analysis

• Market Analysis

• Marketing and Sales Plan

• Product Offerings and Services

• Financial Projections

• Funding Request

 

Executive Summary. Some lenders may not want to read your entire business plan. The executive summary condenses your plan to a one-page abstract. It is similar to a lawyer’s opening statement at the beginning of a trial. Keep it short and sweet. Save the details for the body of the business plan.

In the executive summary you should briefly describe your company and your products and services. It explains your target market and the unmet needs of your prospects. Your summary also describes your primary competitors, what differentiates your shop from these rivals and why your business will be successful.

With respect to your loan request, your summary should spell out how much money you need, what you need the money for and how much time you need before you realize a return on the investment.   

 

Business Description. Your company description provides an overview of your business – who you are and what you do. In a few sentences you should concisely cover the basics. You can provide the details in the remainder of the plan.

 

The basics should include:

• the name under which you operate in your state

• the business structure (whether it is a sole proprietorship, partnership, LLC or corporation)

• a list of your company’s key managers

• your mission statement

• your target market

• the range of products and services that you provide

• your company goals.

 

Market Analysis. The market analysis section of your business plan demonstrates to lenders that you know your market. What’s more, the opportunities are significant enough to sustain your business. In delineating the opportunities, you should cover the following topics:

 

• Market Potential. Quantify the size of the current market size in dollars and cents.  Provide a projection for future market growth, which you could base on industry studies. You should also explain how you collected the data on your market. Using the internet, you can compile some basic information on your market, your prospective customers and the competition. However, for in-depth research, you will need to conduct phone and in-person surveys. Other sources include interviews with your salespeople, vendors and business associates. Market research should be an on-going endeavor.

 

• Target Market. Describe your ideal target customer, such as private carriers with fleets less than 50 vehicles. In surveying your market, you should quantify how many of these fleets are domiciled in your region.

 

• Unmet Market Needs. Describe any products and services which competitors do not provide. Then explain how your shop satisfies any of these unmet market needs.  Also define your unique selling proposition.

 

• Barriers to Entry. Barriers preventing a new competitor from opening a shop protect you from losing a share of your market. They also protect a lender’s investment. These barriers include skills that take years to learn. List those skills that prevent a new competitor from doing what you do. 

 

• Competitor Analysis. Writing the competitor analysis section of your business plan requires research. You can conduct your initial research on the internet. For more detailed information, vendors are a good source. As a word of caution, be careful in sharing information about your shop with talkative salespeople.

 

You can also learn about your competitors’ production capabilities, pricing and marketing efforts from employment interviews and from talking to their customers.

 

Based on the information you collect you can analyze your competitors. After identifying their strengths and weaknesses you should describe your strategy for competing with them. Explain how your shop can satisfy the unmet needs in your market or how you can serve an overlooked market segment.

 

• Sales Analysis. To accompany the sale revenue reported in your income statements, you should chronicle your actual month by month sales performance against your goals. Your business plan should also include a sales budget for the upcoming years based on the trends in past performance.

 

Some of the metrics you should track and include in your business plan include month-to-month sales, the number of accounts added to your database, 30-60-90 day rolling forecast, and the number of face-to-face sales calls from month-to-month.

 

You should use the data of past performance to explain the opportunities within different segments of your business, such as fleet graphics or tradeshow graphics. In your report, you should also provide any insights about product offerings and where you are underperforming.

 

Use of graphs in your sales analysis can demonstrate your awareness of your market, your customer base and your opportunities, as well as understanding of the hurdles that confront your shop.

 

Based on your sales analysis, you should also describe any modifications to your sales and marketing strategies to address any changes in buying behavior, competitive challenges or impending economic storms on the horizon. Keep in mind that a company’s inability to recognize or respond to changing market conditions is one of the main reasons that new businesses fail.

 

• Marketing and Sales Plan. More than half of all business failures result from poor marketing. That’s why market research is so important. In the sales and marketing section of your business plan you need to demonstrate a thorough understanding of your market and how your products and services will fulfill the unmet needs of your prospective customers.

 

• Financial Analysis. In qualifying for a loan, bankers will concentrate on the financial analysis portion of your business plan. This section should include three-year financial projections as well as historical records covering the past three to five years.

Lenders use this information to judge the financial strength and profitability of your shop as well as to determine your ability to repay a loan. This section of your business plan should include three key statements:

• Income Statement (also known as a Profit & Loss Statement or P&L)

• Balance Sheet

• Cash Flow Statement

 

Income Statement. The income statement helps lenders as well as company owners evaluate the performance of the business against its goals and past performance. It summarizes your shop’s income and expenses over a period of time. The difference between the two is your profit or, in some cases, your loss:

 

Revenue – Expenses = Profit or Loss

 

 

The income statement provides measurements in key areas:  sales, cost of goods sold, gross profit margin, shop and administrative expense, returns and allowances, operating margin, and net profit. See my article on key performance indicators.

 

As a management tool, a shop owner can use this information to determine the performance of his managers in various areas of the business, including sales, administration, costing and production. Variances from one time period to another in these key areas can help owners spot trends as well as trigger warnings of potential problems.

 

An historical record of growth in sales and profit along with responsible control of expenses provides lenders with critical information needed in the loan approval process. Lenders will look at trends in annual revenue as a key indication of the strength or weakness of your business.

 

Balance Sheet. Balance sheets are typically computed at the end of a financial period. It provides a snapshot of your finances at a single point in time versus an accounting of what transpired over a financial period.

 

The balance sheet consists of three parts: assets, liabilities and equity. Assets are what you own. Liabilities, on the other hand, are what you owe. The difference between assets less liabilities is your equity.

 

Assets = Liabilities + Equity

 

Assets are listed on the left-hand side of the balance sheet. An asset could be cash or a cash equivalent. It could also be the real estate the company owns, office equipment, furniture, accounts receivables, inventory or shop equipment. In recording an asset on your balance sheet, its cost or what you paid is shown rather than its market value or what you could sell it for.

 

Assets are listed in two categories. Current assets are what you can turn into cash within a year. This includes cash, receivables and inventory. Noncurrent or fixed assets are those items, which you will not convert into cash within a year. These are assets that you will use for more than a single accounting period. Fixed assets include office equipment, vehicles, real estate and shop equipment. These assets are often referred to a PP&E or Property, Plant and Equipment.

 

Balance Sheet
Assets			Liabilities
Current Assets			Current Liabilities
Cash and Cash Equivalents	$10,570		Accounts Payable	$15,932
Receivables	$42,853		Short-term Debt	$2,390
Inventory	$25,089		Other Current Liabilities	$0
Other Current Assets	$0		Total Current Liabilities	$18,322
Total Current Assets	$78,512		Long-Term Liabilities
Fixed Assets			Long-Term Debt	$321,600
Real Estate	$350,000		Other Long-Term Liabilities	$0
Vehicles	$59,000		Total Long-Term Liabilities	$321,600
Shop Equipment	$127,000		Total Liabilities	$339,922
Goodwill	$0
Other Fixed Assets	$0		Equity
Total Fixed Assets	$536,000
Total Assets	$614,512		Total Owner Equity	$277,590

 

$614,512 Total Assets = $339,922 Total Liabilities + $277,590 Total Owner Equity

 

Liabilities. Liabilities and Equity are listed on the right-hand side of the balance sheet. The total of liabilities and equity must equal assets. That way, each side of the balance sheet balances out.

 

Liabilities include Accounts Payable, Wages Owed, Interest Owed on Loans, Taxes Owed and Benefits Payable. Just as there are different categories of assets, there are different classifications of liabilities: Current Liabilities and Long-term Liabilities. Current liabilities must be paid within a year. Long-term liabilities, on the other hand, are paid over a longer period.

 

The Importance of the Balance Sheet. For both business owners and lenders, the balance sheet is the financial canary in the coal mine. If the ratio of your liabilities greatly outweighs your assets, your business is headed for a bad day at Black Rock. To avoid bankruptcy, you need to take drastic corrective action.

 

Generally, when assets are greater than liabilities, your business is growing. On the other hand, when liabilities are greater than assets, your company is dying.

Debt-to-Equity Ratio. As you review your balance sheet you should evaluate your business’s debt-to-equity ratio. This financial key performance indicator ascertains your company’s capability to pay its debts. 

Total long-term and short-term debt/Total owner equity = Debt-to-equity ratio

Example:

$323,990 Total Debt/$277,590Total Equity=1.167 D/E ratio

The D/E ratio in the above example is less than enviable. Yet, it is not uncommon for new companies.

 

Two other line items that lenders will focus on are cash and receivables. The balance sheet helps lenders determine if you have enough cash on hand to pay your interest expense (listed on your income statement). Lenders may view high receivables as a red flag indicating a collections problem. This is why a bank may want to see an aging report. Generally, unpaid balances should not exceed 90 days.

 

If your business does not have enough cash, lenders want to determine how reliant you are on generating a steady stream of sales to pay your bills. If your shop depends heavily on monthly sales to cover your expenses, you may not be able to withstand competitive challenges or downturns in the economy.

 

Caveat Emptor. If you are taking out a loan to buy a franchise or an existing business, you might encounter the term “goodwill” as you review the assets on a balance sheet. For most of us this is a confusing financial concept.

 

In many cases, some of what you are purchasing is not something tangible, such as production equipment or real estate. Instead, some of what you may be paying for is an intangible asset called “goodwill.” An intangible asset is an asset that you cannot sell but nevertheless has some value. This could be the brand name of a franchise or its reputation in the marketplace. If you are buying another shop, goodwill could also be the value of its customer base or an experienced workforce. 

 

The problem with an intangible asset such as goodwill is that it is difficult, if not impossible, to quantify. That means that, in the event of a business failure, how can you liquidate a brand name or customer list?

 

Cash Flow Statement. The movement of cash in and out of a business is called cash flow. According to many studies, problems managing cash flow result in more than 75% of business failures. A cash flow statement providers a lender with an overview of how well you manage your cash.

 

If you do not have enough cash on hand, you cannot pay your bills, you cannot pay your employees and you cannot buy more raw materials to conduct operations. Your business is dead in the water. In other words, you are bankrupt. This is why lenders will carefully examine your cash flow statement in conducting a financial analysis of your company.

 

Good bookkeeping practices are essential in maintaining good cash flow. Failure to attend to your accounts payables and receivables commonly cause cash flow problems and can result in poor financial decisions. See my story on cash flow problems.

 

As your business is starting up you can experience periods when you are strapped for cash. Expenditures on new equipment and increased inventory can result in more cash going out than is covered by sales and collection of receivables.

 

The standard format for a cash flow statement summarizes financial transactions within your shop. The statement divides these transactions into three different financial categories:

 

• Operating Transactions. This section is the most important part of any cash flow statement. It covers the day-to-day inflows and outflows of cash within your business. Sales transactions, for example, are inflows. Paying your employees, paying your utility bill or purchases of raw materials are cash outflows.

 

Operating transactions are computed in one of two ways, either the direct method or the indirect method. The indirect method is the easiest to understand and the more commonly used.

 

• Investing Transactions. These activities cover the purchase and sale of long-term assets. This includes transactions, such as buying or selling of a boom truck, computers, furniture or a digital printer.

 

• Financing Transactions. Financing transactions cover activities involving long-term liabilities, such as raising money through business loans or repayment of debt principal.

 

At the bottom of the cash flow statement is the reconciliation section. It begins with the cash balance from the previous financial period. It ends with the balance from the current financial period. The difference between the beginning and ending balances is the net change in cash. This net change in cash must equal the net cash in the operations, financing and investing sections.

 

Cash Flow Statement                                       For Year Ending 2021
Operating Transactions	Amount
Net Income	$133,250
Accounts Receivables (Invoices not yet paid by customers)	($50,000)
Accounts Payables (Bills not yet paid)	$25,000
Net cash from Operating Transactions	$108,250
Investing Transactions
Payments to Buy Property, Plant & Equipment (PP&E)	($30,000)
Cash from the Sale of PP&E	$10,000
Net Cash from Investing Transactions	($20,000)
Financing Transactions
Owner’s Investment	$0
Owner’s Withdrawal	($30,000)
Net Cash from Financing Transactions	($30,000)
Net change in cash and cash equivalents	$58,250
Opening cash and cash equivalents (from the beginning of the year)	$25,000
Closing cash and cash equivalents	$83,250

 

Funding Request. You should write the funding request as a stand-alone document. Even though you have already provided a business description in your business plan, you should recap it in this section. Your description should explain your target market, business structure, standing in the market and current financial position.

 

Your funding request should describe why you need the loan. In other words, explain how will it improve your business. To help your chances of loan approval, try to quantify the expected return on investment.  If you plan to use the money for various things, provide an itemization. 

 

Addendum. At the end of your business plan, you can include appropriate additional information. This may include support materials that your bank has requested, such as tax returns, real estate documents and marketing materials.

 

Conclusion. As important as a business plan is as a blueprint for running a successful shop, it is also a critical tool in qualifying for a loan. Write your plan with the intention of persuading a lender that you are very knowledgeable about your market and the competition that you face.   What’s more, you have a thorough plan that satisfies an unmet market need, which ensures the success of your business.

According to Greg McKay, VP of Earl Mich Company, preparing a business plan is essential for any new business. It improves your odds for success and it helps avoid failure. To this end he reminds us of the six Ps: Proper Prior Planning Prevents Poor Performance.

 

 

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About Jim Hingst: Sign business authority on vehicle wraps, vinyl graphics, screen printing, marketing, sales, gold leaf, woodcarving and painting. 

After fourteen years as Business Development Manager at RTape, Jim Hingst retired. He was involved in many facets of the company’s business, including marketing, sales, product development and technical service.

Hingst began his career 42 years ago in the graphic arts field creating and producing advertising and promotional materials for a large test equipment manufacturer.  Working for offset printers, large format screen printers, vinyl film manufacturers, and application tape companies, his experience included estimating, production planning, purchasing and production art, as well as sales and marketing. In his capacity as a salesman, Hingst was recognized with numerous sales achievement awards.

Drawing on his experience in production and as graphics installation subcontractor, Hingst provided the industry with practical advice, publishing more than 190 articles for  publications, such as  Signs Canada, SignCraft,  Signs of the Times, Screen Printing, Sign and Digital Graphics and  Sign Builder Illustrated. He also posted more than 500 stories on his blog (hingstssignpost.blogspot.com). In 2007 Hingst’s book, Vinyl Sign Techniques, was published.  Vinyl Sign Techniques is available at sign supply distributors and at Amazon. 

Slides of Jim's Artwork

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