Borrowing Capital

Collette McKenna Parker

August 20, 2008

S ometimes an idea, the market and the resources align in a way that makes a perfect business opportunity.

Such was the luck of Dawn Dallaire, stay-at-home mom turned entrepreneur as CEO of Clearly Fun Soap, a $3 million company based in Griffin and the 2008 Small Business Administration’s (SBA) Business of the Year for Georgia.

Dallaire started the soap-making business in her kitchen in 2002, then moved it into her garage, and in 2005 sought financing through a $25,000 SBA Community Express loan to help move into a 5,000 square-foot facility in Griffin. (She has since expanded to 10,000 square feet.) “The SBA loan provided the necessary cash flow that I needed at the time to grow the business and begin to purchase the components in volume,” says Dallaire. The loan itself was simple, she says. “They required very little information or collateral.”

That’s the beauty of small business loans: their simplicity is designed to truly help the small business.

Last month Catalyst looked at two SBA loans for technology companies: SBIR and STTR loans here. This month we examine the fundamentals of two other options for small businesses in need of capital: 7(a) basic loans, and CDC/504 loans.

7(a) Basic Loan
This is the mother of all small business loans; it’s the most basic and most popular of SBA loans. Here are a few highlights:

•    Loan amounts for up to $2 million are available as start-up funds or working capital; to purchase real estate, help with new construction, or acquire assets such as equipment or materials; or refinance debt.
•    Like all SBA loans, the money actually comes from banks and other non-bank commercial lenders (like UPS Capital). Almost all U.S. banks participate in this program.
•    When applying for this loan, you apply to the actual bank or lender. If your credit is good and the lender is comfortable the bank will make a normal loan.
•    If the application does not meet all the standard underwriting criteria then the lender applies to the SBA for a loan guarantee. The SBA can guarantee the lender a portion (up to 75 or 85 percent, depending on the loan) of that loan in case the borrower defaults.
•    The SBA guarantee protects the lender, not the borrower. If you default on the loan, you’re still responsible for it.
•    If the lender refuses to make the loan, the SBA cannot force the bank to do so. Nor can the SBA make the loan itself.

Even though the guarantee doesn’t protect the small business from defaulting on the loan, that guarantee is what enables many small businesses to get the loan in the first place, and also permits more favorable terms. For example, typical terms for working capital loan may be 36 to 48 months. The SBA terms extend that to up to seven years, without a balloon payment at the end.

“It makes all the difference for favorable terms and approval for the small business,” says Terri Denison, SBA district director for Georgia.

Certified Development Company (CDC) 504 Loans
A certified development company is a nonprofit corporation set up to contribute to the economic development of its community, according to Denison. The 504 loans are similar to 7(a) in that the money comes from private lenders, and the applications are made to them. However, 504 loans are little more complicated. Here are some finer points.

•    504 Loans are typically for large projects that provide economic benefits like job creation or retention, or help to develop economically distressed areas. Companies can use the loans for fixed asset financing – for something like large, long-life machinery (with a life of 10 years or more) or real estate, rather than inventory or working capital.
•    The money available depends on the goals of the project. Up to $4 million is available for small manufacturers, provided it creates at least one job for every $100,000 loaned or meets other criteria for improving local economic conditions. Up to $2 million is available for companies meeting certain public policy goals, such as a business district revitalization.
•    These loans actually require getting two separate loans. The first – or senior – loan is made by a commercial lender for at least 50 percent of the total project loan. Then the second – or junior – loan is made by a SBA licensed certified development company. The junior loan is for up to 40 percent of the project and is 100 percent guaranteed by SBA. The borrower must put in the remaining 10 percent of project costs.
•    The SBA brings the benefit of allowing a junior loan to be for up to 40 percent of the project. Typically commercial loans are for 20 to 25 percent of the project.
•    Start-up companies are required to put in an additional 5 percent, to make their total contribution 15 percent of project costs.

Applying for SBA Loans
When seeking a SBA loan, “You really don’t prepare any differently than for a general loan,” says Denison. “It’s really about having a clear vision of what you want to do.”

Of course you must have a business plan. It doesn’t have to be 100 pages, but hit basics, says Denison. You want to include a brief background of the company, the principals and goals, both in the form of immediate goals and a five-year plan. Include the specifics of why you need financing. 

Also include pertinent financial data so the lender can see how the company is performing. If it’s a start- up company include projections, and give a context so the lender can determine if they are reasonable projections both for that industry and the current economy.

“It’s also important to include cash flow projections to show that you’re going to have enough cash coming in to cover debt service and contribute toward the ROI that the lender is looking for,” recommends Denison. “Start-ups should give a reasonable idea of when they will break even and generate profit. Too many start-ups focus on opening doors, but don’t ration the money to cover the period before they are profitable.”

Small business loans can be that bridge between the kitchen table and a 10,000 square foot manufacturing facility.

© Tadija Savic | Dreamstime.com

---

Collette McKenna Parker has been an Atlanta business writer for more than 10 years, and started her career as associate editor of Business to Business magazine. She was managing editor of Catalyst before becoming a full-time freelance writer and has written for dozens of local and national publications, including several years as a Time magazine southeast business stringer.

Related Articles:

• A Taste Of The Good Life
  How one local couple is making millions by turning up the heat.