Many entrepreneurs are convinced that banks are not worth the effort for startups, especially early-stage ones that still don’t have a revenue stream, or collateral to back up their financing needs. A question I get all the time is “Can I ever expect any backing from my bank for a great opportunity?” The short answer is that some banks will help, if you do your homework.
The first thing to remember is that banks only do loans – they don’t do equity investments like angels and venture capitalists (and vice versa). To get a loan, you generally need to satisfy their 3 C’s – credibility, capacity, and collateral. That traditionally translates to at least two years of positive cash flow, with enough assets or receivables to cover at least 80% of the loan.
If you don’t have that, there are things that you can do to compensate. All banks are looking hard right now to get back in the game, and certain ones, like Silicon Valley Bank, are more focused on small businesses. I found a great discussion with Mark Horn, a former Silicon Valley Bank senior vice president, published by Jill Andresky Fraser several years ago but still relevant today, which outlines the issues I believe every startup must address when pushing the limits for a loan:
A clear mission. You have to get past how great the product is to address clearly what your business rationale is, why it is different from the competition's, and why it will succeed. Be concise as well as complete. Show focus and your understanding that your company is something more than just a good idea.
A winning product or service. Provide a simple yet complete description of your product or service and its competitive marketplace. Include any empirical evidence--including market research or technical analysis, if that's appropriate--in order to bolster your case about why you believe you will succeed.
An impressive team. When we say 'team,' that's what we want to hear about: a group of people who are working with the person who had the original idea to give this company its market advantage, including salespeople and finance people. If you don't have a team on staff, then a banker is going to want to hear about outsourcing and advisors.
Management with a strong track record. When describing each key person on your team, it's important to describe his or her employment history, with an eye toward convincing the banker that the person's experience will help your company achieve its goals. Here, too, focus on outside advisers as well as on key executives.
Partnerships that lend credibility. Be comprehensive here. What a banker is looking for is validation of your idea. If you've succeeded in bringing savvy investors or corporate partners aboard, then that can be a pretty good sign that your idea can succeed in the marketplace.
Money from other sources. This question gets to the heart of what bank financing is and isn't supposed to accomplish. Bankers do not contribute equity. What they're looking for is a situation in which others have already done that, so the bankers want to see the owner's money involved.
A realistic cash plan. What any banker will want to know is, basically, how much money you've already raised and how quickly you've gone through it; how much you're currently spending; and finally, at what point you anticipate earning the revenues to sustain a positive cash flow.
Finally, remember that at almost any bank you will need to back up your financing pitch with audited financial statements, a well-thought-out business plan, credit check, and maybe even your personal tax returns as well. That's just reality.
In case you hadn’t noticed, the items highlighted by this banker are equally important to equity investors, so you need to do the work in either case. In the long run, bank loans are considered “less expensive” than giving up equity and giving up control, so a savvy startup should never skip this alternative.