University of Illinois Extension

Understanding Financing Is Helpful to Potential Entrepreneurs

Opportunities to capitalize on being involved in a variety of entrepreneurial business activities can hold a great deal of promise for many people in search of options to earn extra income or even establish a new self-managed source for primary incomes. While many factors must be addressed prior to the startup of any business, the need to obtain financing is usually one of the common issues that confront all prospective entrepreneurs. Understanding a few basics of financing from a lender’s prospective can help to make the business development process go at least a little smoother. Although loan requirements will differ slightly from lender to lender, the issues discussed below will be common points of discussion for most.

While creativity and enthusiasm are vital to the success of any new business, we must remember to keep a firm grip on reality throughout the business development process. It is important for an entrepreneur to be excited about his/her ideas but where financing is concerned, it will be helpful to be able to convey that excitement in terms of facts and figures that can justify the excitement in a project to the prospective lender.

It is also important for a prospective borrower to have a basic understanding of the standards that must be met in order to qualify for financing. Information of this type can easily be obtained from prospective lenders. In some cases, it might be advisable to take the time to meet face to face with a few lenders in the early stages of planning in order to gather necessary information and to explain the basics of an idea to the lender in order to get their suggestions concerning the best way to achieve the goals at hand. Taking time to gain a thorough understanding of the expectations that will be placed on you as the borrower can add a great deal of efficiency to the planning process. Obtaining initial financing to start a business is essentially the first sales transaction made by any new enterprise. This can be complicated in some cases since the management ability of the borrower will have to be “sold” in conjunction with the feasibility of the business idea. So what do lenders look for in prospective borrowers and their projects? A few basic issues that will need to be examined would include credit history, the business plan, and down payment capacity.

Good credit history is a valuable asset when searching for financial assistance to support the development of a new business venture. In many cases and especially when the lender and borrower are not well acquainted, the credit history will serve as a detailed introduction of your overall financial character, for better or worse. A history of late payments or unfulfilled financial obligations in your past can be a serious impediment to securing new financing for even the most promising business prospect. Be straight forward with the lender if you have a blemished credit history because that is not something that can be hidden. Financing can be obtained with less than perfect credit although that is an additional hurdle that will have to be addressed to the satisfaction of the lender.

Another piece of helpful information to explain a prospective project to a lender is a well-organized business plan. The business plan should provide a thorough explanation of the business venture. The information should be presented in a professional manner and use terminology that can be easily understood by someone that may not be familiar with the intricacies of the particular business being proposed. Lenders should be able to use the plan to gauge the ability of the borrower. While there are a number of agencies and programs available to assist with the development of business plans it is imperative that the entrepreneur be intimately involved in the process. If the borrower relied on someone else to compile the majority of the business plan, it will usually be clear to an experienced lender in the course of a few questions and reflect negatively on the borrower.

The ability of the borrower to assume a portion of risk for the project will also be an important issue for the lender. This collateral can come in several forms. The most common would be in the form of cash. Other sources might include leveraging an equitable asset owned by the borrower such as a house or other real estate. If lenders are satisfied with the credit history and the business plan, they will generally feel comfortable assuming 80 percent of the risk, provided there is sufficient repayment capacity. Repayment capacity would ideally come from income generated as a result of the new business, however supplemental income from other sources can help to satisfy this debt during startup. This may not be an option if the business is to be the sole source of employment so lenders may encourage entrepreneurs to start small and test the waters of the business world before leaving stable full-time employment to pursue the development of a personal enterprise.