There was a time when you had to have collateral before a bank was prepared to give you a business loan. With their risk covered, their job was done.
However, banks now view business loans very differently. According to Riaan Fouche, head of franchising at First National Bank, five years ago banks flipped through the credit-application document, looked at what security you could offer and only then considered the concept of the business you were buying.
Today, banks look first at the business concept and place a value on it. Part of that value is the extent to which the franchisor supports the franchisee, making the business easier to manage. This makes the choice of franchise vital in a loan application.
“We view support to the franchisee as a risk-mitigation tool and part of the security of the transaction,” says Fouche, who adds that the condition of granting a loan is not about the security but the affordability. “At the end of the day, the business must be able to service the loan. On a good franchise we would gear up to 100%”.
Yet if the franchisee only needs an 80% loan and the business could not afford to repay the loan, the bank would not extend a loan even if the customer could offer 100% collateral. So, even if you do not have assets, thorough research and a good franchise is all you need.
Before banks lend you a cent, they will want to see your business plan. It will also give you a clear idea as to whether this business is going to work or not before you commit your life to it. Firstly, it tells you whether the business can service the loan and what your cash flow will be. If you are continuously making a loss, then it is just a matter of time before the business collapses.
Secondly, it will tell you what salary you can afford to draw. Fouche says the bank hesitates to finance a franchisee if the salary he or she can afford to draw is less than current earnings. “People seldom lower their standard of living. They will find ways to cut corners or take money out of the till that actually belongs to the business.”
The idea of lending based on cash flow and not collateral is a total mind-shift for banks. Fouche says that as a rule of thumb, if your cash flow can cover your loan repayments by 1,5 to 1,7 times, then the bank is interested.
But a business plan is more than just a means to get financing. It also allows you to familarise yourself with the business. It is a simulator of how the business will work.
It is important to understand your targets and the impacts they will make on the ability to grow the business. A business plan is a living document, something you need to revise and adapt at least once a year. While FNB offers a standard business-plan template, Fouche says that a Web search on Google will provide a plethora of business plans to work with. Sections of banks that work with start-up businesses will also assist you in deciding on some basic decisions like whether to go with a close corporation (CC) or proprietary limited company (Pty Ltd) and the tax implications of the options.
“Many people do not know that they have to be VAT registered once they have a turnover in excess of R300 000. Suddenly, a year down the line, they owe the Receiver a huge amount of money and their whole business plan is turned upside down.”
Fouche says that before applying for a loan, a potential franchisee must already have been approved by a franchisor. “Sometimes a franchisor will insist the client must first get funding before they will consider their application as a franchisee. It is a way of outsourcing their selection process, which means they do not have the correct structures to vet potential franchisees.”
He says this is a warning signal to the bank that the franchisor is not on top of its game. Banks are also very careful in recommending franchises to clients because there is a potential comeback if the client is not successful in making the business work. “It is a very personal decision and depends on the person. For example, before buying a pub franchise, the franchisee should speak to his or her family as the hours are extremely long and may not suit everyone.”
Fouche says that potential franchisees should contact the Franchise Association of Southern Africa (Fasa), which can provide guidelines to selecting the right franchise. However, if a customer comes back with a shortlist of five businesses he or she is interested in, then the bank will assist in brainstorming to make the final selection.
So before you rush into buying a franchise, do a business plan and, if the bank rejects your request, listen to what they are saying. It could be that the business cannot afford to repay the loan or it could be an indication of the franchise you are buying into. While the bank cannot actively advise you on a franchise, it will know which ones to avoid, and its lending decisions could be a real clue.