What do lenders look for when approving a business loan?

As a small business owner planning to expand operations and secure equipment financing, I’ve been researching traditional bank loans and SBA programs but find conflicting advice online. Lenders seem to emphasize different factors—some focus heavily on personal credit scores while others stress cash flow projections or industry experience. Given that my business has two years of consistent revenue but I’m a new founder with a 650 personal credit score, what specific criteria—like debt service coverage ratios, collateral requirements, or business plan credibility—do lenders typically prioritize when evaluating loan applications for established but growing small businesses without extensive credit history? Also, how do these expectations differ between commercial banks and alternative lenders?

Lenders evaluate loan applications based on several key factors to assess the borrower’s creditworthiness and the risk involved. The primary considerations include:

1. Credit History:

   • Personal and business credit scores (e.g., FICO, Experian, Dun & Bradstreet).
   • Payment history on existing debts (loans, credit cards).
   • Public records (bankruptcies, liens, judgments).
   • Length and stability of credit history.

2. Business Financial Health:

   • Revenue Stability: Consistent cash flow, year-over-year growth, and projected income.
   • Profitability: Net profit, operating margins, and ability to service debt.
   • Financial Statements: Audited or reviewed balance sheets, income statements, and cash flow statements (typically 2–3 years).
   • Debt-to-Income (DTI) Ratio: Existing debt obligations relative to income.

3. Collateral:

   • Assets pledged as security (e.g., real estate, equipment, inventory).
   • Loan-to-value (LTV) ratio limits (e.g., 70–80% of collateral value).
   • Unsecured loans rely on cash flow and credit strength.

4. Business Plan and Purpose:

   • Detailed business plan outlining loan use (e.g., expansion, equipment purchase, working capital).
   • Market analysis, competitive positioning, and growth strategy.
   • Clear repayment timeline and milestones.

5. Experience and Management Team:

   • Owner/manager background in the industry.
   • Track record of business success.
   • Strength and expertise of the management team.

6. Time in Business:

   • Startups (less than 2 years) may face stricter requirements.
   • Established businesses (2+ years) are preferred for higher loan amounts.

7. Industry Risk:

   • Lenders assess industry volatility, competition, and economic sensitivity (e.g., healthcare vs. hospitality).
   • Compliance with regulations in the sector.

8. Cash Flow Projections:

   • Realistic forecasts for future revenue, expenses, and profit/loss.
   • Analysis of operational efficiency and working capital needs.

9. Personal Guarantee:

   • Often required for small businesses, tying personal assets to the loan.

10. Down Payment:

    • Required for secured loans (e.g., 10–30% of loan amount).

11. Banking Relationships:

    • Existing accounts at the lending institution.
    • Cash flow history with the bank.

12. Legal and Compliance Factors:

    • Business licenses, permits, and legal structure.
    • Absence of ongoing litigation or regulatory violations.

13. Economic Conditions:

    • Broader economic environment (e.g., interest rates, inflation) affecting repayment capacity.

Lenders use tools like the “5 C’s of Credit” (Character, Capacity, Capital, Collateral, Conditions) to structure their decision. Approval hinges on demonstrating low default risk, reliable repayment ability, and alignment with the lender’s risk tolerance.