Answering the Lender's Objections

Identifying the qualifications, exceptions and alterations (if any) of a lender's rejection of your loan proposal can help you to determine just why the lender said no. Below are listed some of the most common reasons that lenders use for rejecting a loan request and some logical responses to those reasons:

Objection: The business is undercapitalized. Lenders are much more comfortable when you the borrower have either contributed or earned a substantial portion of the business's net worth. In examining the total debt-to-equity ratio, there should be some reasonable part of the company's financing provided by a source other than the lender.

Response: There are measures that you can take to increase your equity in the business. For example, you could infuse more money into the company from such sources as savings, a second mortgage on your home, proceeds from liquidated investments, or the cash surrender value of a life insurance policy. Furthermore, it may be possible to convert any subordinated debt or notes payable to the company into equity. You can also attempt to reduce other liabilities of the company by a reasonable amount (and at a discount, if possible). Lowering the business's overall debt level will allow the lender to operate from a stronger perceived position with regard to the company's ability to repay the loan.

Objection: The business has yet to make a profit. Lenders will typically expect that a borrower who has a track record of business success will be able to implement the business strategy put for in a proposal and repay the funds advanced. If a company has perpetually lost money, however, most lenders may reason that additional financing will simply compound those losses and the borrower will be unable to repay the loan.

Response: Your explanation of the financial history of the business was probably not sufficient or not reasonable (as far as the lender was concerned). If your business has failed to earn a profit, it's important to demonstrate the reasons for this and explain how you will correct the problem. Be sure to provide candid and detailed documentation explaining the periods in which a profit was not earned. In comparing those loss periods to periods in which the business did earn profits, you can explain how the operations may have been different. You should then detail how the loan proceeds will be used to position the business in such a manner that profits will be assured.

For example, at times acquiring better and more efficient assets is all that's needed to achieve profitability. Lenders can usually accept this strategy if you can provide substantive evidence that increases in productivity will indeed shift your balance sheet back into the black.

Objection: The proposed loan is too large. Lenders often attempt to lessen loan request amounts by either reducing the marginal funds or trying to force the borrower to spend less in a particular area of the proposal. The intent is to control their risk exposure and also perhaps to get the loan balance down with regard to the amount of collateral being offered.

Response: It's important to remember that only you can decide if your proposed strategy can be achieved with a lower amount of funding. Furthermore, only you will know how much extra financial cushion, incorporated into your original request, can be lowered without materially affecting the business. Your response, therefore, must be based on how much money is actually needed and how an expenditure can be reduced without causing a negative impact on your business plans. Alternatively, offering to provide additional collateral may persuade the lender to reconsider the restriction, since by doing so you'll reduce the lender's perceived risk in the transaction.

Objection: The business strategy isn't sound. Loan officers will often test your ideas against their collective knowledge and experience (or inexperience) in order to evaluate whether the business has a reasonable chance of succeeding. If the lender has significant reservations about your prospects, the financing will be turned down.

Response: Keep in mind that lenders are not always right, and they are almost always of a conservative nature. Perhaps you didn't explain the strategy sufficiently, or maybe the lender has an incorrect or incomplete understanding of exactly what you're trying to accomplish. Review the business strategy carefully with the lender, making absolutely sure that it fully describes each detail of the plan. Don't hesitate to add emphasis and support to your ideas with articles, surveys, marketing and demographic studies, etc.

Objection: The business is too risky. Some lenders altogether exclude particular industries from their lending market because the risks inherent (whether real or perceived) in those businesses are beyond the lender's acceptable parameters. Such exclusions may apply only to the local lender, or they may be generally common among most lenders, depending on the particular industry involved.

Response: It's possible that you didn't effectively communicated how some of the risks might be eliminated, or at least limited. For example, by accepting tighter terms or providing additional collateral, you could structure the transaction to give the lender greater protection from excessive exposure to potential loan losses.

Objection: There's not enough collateral. This is probably the most often-used reason by lenders for rejecting a loan request. Lenders typically desire a minimum ratio of 1:1 collateral-to-debt coverage, and that based on a discounted valuation of the collateral. They'll often attempt to use collateral leverage to encumber virtually every asset that a borrower owns, even if those additional assets contribute little actual value toward securing the loan.

The quantity and quality of the collateral offered can often overcome many objections, because lenders are usually only too glad to rent the borrower his or her own money – which is, in essence, what's taking place when collateral is taken for a loan. It's actually a small matter that the money is presently tied up in the asset; it can be seized for liquidation should the loan not be repaid.

Response: Your response as a borrower should be based on an honest and accurate recognition of the true value of the collateral you're offering. You should also be aware of its worth in liquidation. Lenders are often inclined to sell repossessed assets at substantially less than market value, seeking merely to recover their outstanding loan balance rather than getting the full worth of the resources.

It's therefore wise to know the market for selling assets similar to those that you've offered as collateral. If necessary, order an appraisal from a used equipment dealer or auctioneer. The dealer should be able to quickly judge what the equipment would likely bring in a timely sale or auction. This information can be very useful in determining the leverage that the lender will give you on those assets. Additionally, real estate assets should also be valued by appraisal. Lenders will typically advance a standard amount of the market value of real estate, thereby providing themselves a margin to cover the time and associated cost of selling the property in the event of default.

If the lender has not valued your collateral adequately, you can provide additional information to prove its' greater worth. But you'll only be able to challenge the lender's assessments with a different value that has been documented. Then, when asked to review their calculations, they should at least come to a compromise value based on the evidence that you provide.

If, after your own valuations, the assets are indeed insufficient, be prepared to offer more collateral to the lender. And, as an additional word to the wise: it's a good idea to have a backup strategy of how to accomplish your goals with fewer dollars, just in case you can't raise sufficient supplementary collateral and you're forced to settle for a somewhat smaller funding amount.

Objection: The financial projections are unreliable. Lenders will pay particular attention to the financial projections of a loan proposal to determine exactly how the borrower intends to repay the loan. Based on contributing factors and past experience, the lender might not always agree with the proposal's conclusions about revenue production or the cost of operations, and as such, the borrower's ability to service the debt may be called into question.

Response: Examine the projections carefully and ensure that the expectations have been reasonably arrived at and effectively communicated. Reviewing the data on which the projections are based, you should ensure that this evidence is documented clearly and accurately.

Also, be prepared to make modifications to correct any errors that might have been discovered by the lender or to revise any calculations where necessary. Then, when comparing the new numbers against the debt service to pay back the loan, you'll need to determine if the deal is still feasible. When you've re-run the numbers and are confident in them, present them again with a line-by-line discussion to convince the lender of the soundness of the new expectations.

Of course, responding to any (or all) of these objections won't guaranty that the lender will change the decision, but it's certainly the logical "next step" to take after the loan has initially been rejected. Since considerable effort has been invested in educating this particular lender about your business, you should attempt to address his or her concerns before completely starting anew with a new proposal to a new lender.

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