The 5 C's of Credit

One good business practice is to put yourself in the shoes of the person you are dealing with, whether that is a customer, a supplier of an employee. This same approach is also true when approaching a lender for a business loan. The lender is about to hand over a sum of money to a virtual stranger, and this action will not come without the lender conducting some scrutiny and asking some hard questions.

Every lender is interested in minimizing risk and fraud and they are most interested in ensuring they get their money back. The initial review by the lender will focus on some fundamentals that are quite standard across the industry and often referred to as the 5 C’s of credit.

The first factor that the lender is interested in is your Credit worthiness. The lender will review your credit score to determine your history of borrowing and credit management. The amount of debt, payment history, timeliness of payments, balances and number of credit facilities will all weigh on the lenders decision. The lender’s decision is heavily influenced by prior credit history so it is a very good idea to know and understand your credit history and to ensure that the credit report is an accurate reflection of your information.

The second criteria is your Capacity, what income is available to repay the loan as it becomes due. Is the business generating income in excess of expenses, are there other sources of income. Is the net income stable and predictable – often a problem for many small businesses. Lenders will consider savings and investments as a fallback to cover short term income fluctuations.

Even if there is adequate capacity lenders understand that market conditions are continually changing and so the next criteria seeks to address the risk if you can’t make the loan payments – Collateral. This is the security the lender will liquidate to recover the loan if the business fails to make payments.
What resources have you committed to the business is the next fundamental lenders review – what is your invested Capital. You cannot assume that any lender will accept the downside risk if you have not invested adequately in the business.

The final criteria is Capabilities. The lender will want to know that you are qualified to operate the business both on a technical skill level but also an understanding of the skills and responsibilities as a business owner. One of the key documents that assist the lender in this criteria is the business plan. The business plan will outline the qualifications of the business owner, list their professional advisors and more importantly describe the marketing, operational and financial activities planned.

Understanding the 5 C’s of credit will help you prepare to meet with potential lenders and understand the process from the other side of the table.

For more business advice contact the Elgin Business Resource Centre. EBRC offices are located in Aylmer, Dutton and St. Thomas.



This article was written by Glenn Thorel and first appeared in Elgin This Month.