Whether you are launching a new business or expanding an existing one, you need to have a good cash flow. It is crucial to adapt and make necessary changes to remain relevant in any competitive industry.
Managing a business is an ongoing process that demands your constant attention. It also requires a regular influx of funds. An expansion plan sans a funding strategy is a recipe for disaster.
A business loan is the best way of tackling the cash flow problem, but getting a loan sanctioned might not be all that easy for most businesses. Most business loan applications do not get approved for various reasons – let us discuss a few of them.
Top reasons why lenders might reject your business loan application
• Poor credit score
Lenders carefully consider the credit history of your business and its directors while accepting or rejecting a loan application. A slip in any of your EMI or credit card payments can result in a less-than-impressive credit score, resulting in them rejecting your application. However, the good news is that every lender looks at credit score numbers differently. If one lender rejects you, there is always hope that another might just approve your application.
• Impractical business plan
Lenders will closely examine your business plan to decide if you are worth considering for a loan. A sound and logical business plan detailing cash flow, expenditure, future projections, and profits might help you sail through the scrutiny process. An impractical business plan that does not project the income-expenditure relationship, marketing strategies, and target consumers will get rejected.
• Insufficient data of strong financial cash flows
Your cash flow plan is one of the first things lenders will look at while considering your business loan application. They must see clear and indisputable evidence that a robust cash flow measure covers your business. It must cover not only routine expenditures but also your debts. If they see poor revenue, a patchy cash flow, or gaps in cash flow, your loan application will most likely get the red signal. It will send a clear indication to the lenders that you may not make regular payments.
• Lack of collateral
Lenders generally do not approve loans without solid collateral. With sound collateral supporting the application, lenders can be sure their money will not disappear. Your collateral can be anything of good financial value, such as real estate, machinery, goods, and others.
On the other hand, your loan application will not move ahead if your collateral is not of clean title or has poor value. Traditional lenders insist on collateral to approve a business loan.
However, if you cannot provide collateral, you can go for unsecured business loans through alternate funding sources.
• Debt utilization history
Lenders generally want businesses to limit their use of a business loan to around 30%. If you are using too much, it could send out a signal of overreach and repayment risks. For example, if you have an INR 75 lakh ($100,000) line of credit but have previously utilized around INR 60 lakh ($80,000) loan, you will be clearly seen as a risk for lending.
On the other hand, if you have no previous debt and show a good repayment history, your application is more likely to get approved. You must focus on maintaining acceptable debt utilization from all your credit sources to improve your chances of getting a business loan.
• A relatively new business
If your business is relatively new, you might not have an excellent credit history to qualify for a business loan. Not all vendors report your payments to the credit agencies automatically. Ensure you set up an account with suppliers who report your payments, thus allowing you to create a good credit history gradually. You might have to scout for the right lender who will look at your current track record and not at your relatively short credit history to decide on your business loan application.
However, the reality is that most lenders prefer lending to businesses that have been around for long. It assures them of business experience, continuity, and reliability.
• Incomplete loan application
This shouldn’t be one of the reasons for your business loan application getting rejected, but sadly, that’s the truth. Incomplete loan application, not presenting all the information required, not providing the documents needed to process the application – are all common reasons for rejection of business loans.
Businesses spend a lot of time preparing a loan application. Despite that, if an application is rejected on the grounds of incomplete details or lack of documents, it’s a poor reflection on your commitment and competency. Lenders will need your business plan, details of business and personal tax returns for at least the past three years, business bank account statement, the financial projection for the next five years, and business credit report. They might also insist on legal documents such as contracts, licenses, permits, and others. If any of these are missing from the file and you cannot provide them after repeated reminders, you might not get that loan you direly need.
• A high-risk industry
Lenders are wary about offering loans to businesses that operate in an industry considered risky, in business parlance. They have their way of judging the risk level of a business. Industries such as gambling or hemp-related products are seen as high-risk as they are subjected to special laws that often obstruct the progress of the business. They have to constantly reinvent their business strategy to remain on the right side of the changing regulations. Restaurants also have a high failure rate and, hence, do not get approved for a business loan quickly. If you are in a business that’s considered risky, look for lenders who specialize in funding your type of business.
Getting rejected for a business loan when you need funds desperately can be one of the worst experiences as a business owner. However, you need not be dejected. Treat it as a learning experience that can help you prepare better for your next business loan application. You can also try approaching alternative funding sources that do not insist on many of the above processes. You may have to pay a higher interest rate, but it will help you meet your immediate financial obligations.