business owners - man and woman discussing paperwork

If you are thinking of applying for a business loan, it’s important to understand what factors go into making a loan decision.  Often I find businesses and investors don’t know how their financial institution makes decisions and don’t initially supply the information needed for the institution to have an accurate picture of the business.  Understanding the 5C’s of business credit will allow you to be prepared and help you to think through your business needs when applying for a loan.

Character
Character is first because it is one of the most important aspects of business lending.   Character is the measure of the willingness of the borrower to pay back the loan.  It is measured by a number of factors, but is somewhat subjective.  First Commonwealth looks at things like credit rating, and repayment history, personal financial strength of the business owner, and your relationship with your loan officer.

Capacity
This is the measurement of the actual ability of the business and guarantors to repay the loan.  Typically, your business will be measured on a historical period of approximately two to three years and a review of your current period financials will be done.  You may often hear this referred to as measuring your cash flow or calculating your debt service coverage.

Capital
Capital is your investment into the business and loan request.   Typically, if you are purchasing a new building, you will find your institution will finance 70%-80% of the purchase price.  First Commonwealth wants to ensure you already have the funds to make up the equity we are not financing and you have the ability to handle the loan payments, even if you run into some difficulties for a few months.  This is measured by your liquidity, retained earnings, and equity in fixed investments.  

Conditions
This is more about the outside influences or economic factors affecting your business and ability to repay the loan.  For instance, are you affected positively or negatively by things like the increased incentives being offered to businesses and investors in the Allentown Neighborhood Improvement Zone (NIZ)?  Will you lose customers because of this?  Will you gain customers because of this?  Will it affect your pricing power?   Do you know this is going to affect your investment?  

Collateral
Many businesses and investors approach me with a piece of collateral they want to use as security for financing.  Mistakenly the belief is the collateral is the most important part of the loan decision.  While it is important, it is last on the list of the 5C’s for a reason.  First Commonwealth is not interested in taking possession of your collateral; it is a last resort for collecting the debt.  We are more interested in your ability and willingness to pay back the loan you are requesting.

If you are thinking about making a business loan request, make sure you speak with First Commonwealth Business Services .  Our knowledge and experience will help to make your transaction and lending relationship smoother and less complicated for years to come.

by: Steven Mertz - First Commonwealth's Vice President  Business Services