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First Financial Commercial Loan

Big Data Helping to Ease Commercial Lending Restrictions

When researching their What’s Your Business Worth, authors Daniel Priestley, Scott Gabehart and Michael Carter discovered that 67 percent of all businesses are under-financed.

This means that two thirds of businesses do not receive sufficient funding that would allow them to expand their business and increase their profits. When a business is underfinanced, the owner lives “hand-to-mouth,” a stressful daily existence. The thought of missing payroll–being incapable of paying workers with families to support–weighs on them. Commercial lending provides the capital to escape the merciless business-acquisition-and-billing treadmill.  

When you begin the commercial lending process with a financial institution, usually entrepreneurs and business owners will find they are asked two questions: What is your credit score, and what is your personal income? These are the same questions that a person applying for a personal loan would be asked as well, and highlights an outdated system that uses an incomplete benchmark process, which is a significant disadvantage for small business owners.

The bank uses your answer to those two questions as its primary way to determine how much capital they are willing to lend to a small business. However, these metrics to do not paint a complete picture of the businesses performance, nor how it is progressing. In order for commercial lenders to make better lending decisions and for the entire process to be fair for small businesses, this old methodology must be updated and take into account more than just the data included in a FICO score.

There is hope – improvement in big data has forced commercial lenders into holistic adaption. Commercial lenders have adopted this process in response to the demands of small business owners, and by incorporating more data and variables into their decision making, they have made lending faster and more efficient. Big data is transparent by nature, and this has benefited both borrowers and lenders. Borrowers have more information than ever and can see the terms other businesses have been able to secure, while lenders have reduced their risk by having a better understanding of the business due to a more complete evaluation process. Loan decision making that better represents the primary shareholders creditworthiness as well as the business valuation is a win for both parties.  

The commercial lending industry could be revolutionized if the banking sector is able to develop a more efficient way to allocate the supply of available funds to the demands and needs of small business owners. First Financial believes that in order for this to happen, there needs to be an updated lending act and data infrastructure for both small and midsize businesses. The amount of capital a business receives should correlate exactly with its value and future potential. The current regulations do not allow for this. They determine the creditworthiness of a business solely on risk and not on other important variables, such as potential. Reformed lending laws are needed in order to streamline and improve the commercial lending business.

All the Docs You Need to Impress a Commercial Lender

 

Understanding the documents needed to secure a commercial loan and understanding the terms found in those documents will help you negotiate a loan agreement with the best terms.  

When it comes time to negotiate the terms of the loan, it’s important to recognize that borrowers and lenders have opposite objectives. Borrowers want loose conditions in order to have flexibility; lenders want the terms in which they must distribute funds to be as strict as possible. Borrowers want to provide as little documentation as possible, and lenders want as much as possible.

Going into the negotiation you should be knowledgeable about the loan approval process, have your documents ready and know what’s in those documents.

Here are the basics of what you need to know:

General Commercial Loan Concepts

Secured vs Unsecured Loan: An unsecured loan is a loan that is paid for by the borrower’s creditworthiness, such as their cash flow and assets. Under this type of loan, property cannot be used as collateral and borrowers must have a very high credit score to secure. A secure loan is similar in that it can be supported by the borrower’s cash flow and assets, but the borrower must also pledge an asset (such as a car or house) as collateral for the loan and the lender has ownership of the asset if the borrower forecloses.

Negative Pledge: Mainly uses in unsecured loans, this prevents the borrower from promising certain types of assets or cash amounts to other lenders. The purpose of the negative pledge is to prevent other creditors from having a superior claim to the assets of the borrower for future loans.  

Letter of credit: A letter of credit is a promise by the party issuing it (usually a bank) that ensures that a buyer’s payment to a third party will be received on time and in the specified amount. If the buyer is unable to make the payment, then the bank is required to step in and cover the full or remaining cost.

Term Loan: This type of loan features a repayment schedule and a fixed amount of interest. It can be for any amount of money and the term length is generally between 1 – 25 years.

Demand Loan: A loan that is due at the time in which the lender demands payment. These are not common in commercial loans, but lenders may attempt to add provisions in other loans that allow them to do so so in certain cases, such as a change in the borrower’s finances or an economic recessions.

Revolving Loans: Under this agreement, funds can be given out and paid back at any time during the life of the loan. The amount of money owed cannot surpass the lenders commitment owed under the loan.

Bullet vs Amortizing When Negotiating a Commercial Loan

Bullet loans are loans where the principal is to be paid in one lump sum at the maturity date. Amortizing loans having the borrower pay off the principal according to agreed upon schedule. It is important for borrowers to way the specific pros and cons of both deals. Due to the interest rates used, it is possible for a 15 year fully amortizing loan to have a shorter duration 25 year amortization, 10 year term loan.

A Promissory Note: This is a signed document that contains a written promise for the borrower to pay a specific sum to a specific person on specific date in the future or on demand. A promissory note allows a company to obtain funding from a source that isn’t a bank. The terms differ from a typical loan agreement because only the borrower has to agree to the terms, the lender does not.  This means that the lender is not obligated to act reasonably or give you any notice of their future actions toward you. However, a promissory note can also be used as a liquid asset (unlike a loan) that can be transferred or sold by the lender.  

The Loan Agreement: This outlines a majority of the obligations of the creditor and borrower. Included is the following:

  1. Definitions;
  2. Conditions Precedents;
  3. Representations and Warranties;
  4. Affirmative Covenants;
  5. Negative Covenants; and
  6. Events of Default;

Other Documents: Besides the above mentioned documents, lenders may include any of the following documents depending on the nature of the financing and the agreements made:

  1. Corporate Resolution;
  2. Subordination Agreement;
  3. Intercreditor Agreement;
  4. Assignment Agreement;
  5. Pledge Agreement;
  6. Guaranty;
  7. Security Agreement;
  8. Deposit Account Control Agreement;
  9. Mortgage or Deed-of-Trust;
  10. Error and Omission Agreement;
  11. Disclosure and Authorization forms;

Being familiar with the loan process and having a foundation of knowledge regarding the documents used and what is in them will help you negotiate a better agreement for yourself. The more knowledgeable you are going into the negotiations, the better off you will be.


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