The Five C’s for Making Your Business Credit-Worthy

3 min. read

Updated December 3, 2024

There comes a time when every business must secure financing to cover their growing needs. Whether it’s to buy new equipment, purchase land, improve an existing location, or to just give your business a little breathing room, a loan can sometimes mean the difference between making it to the next level and falling behind your competitors. Unfortunately the world of finance can be a bit tricky, especially when it comes to business loans. So many elements come into play. Knowing what those elements are can mean the difference between acceptance and rejection.

From the lender’s perspective there are five major elements they consider when evaluating a business for a loan. Commonly referred to as the “Five C’s,” lenders strive to get a complete picture of the health, potential, and credibility of a business before they agree to hand over thousands (and sometimes millions) of dollars.

The Five C’s are:

1. Character

The borrower must demonstrate strength of character. This includes producing a sound credit report with limited to no negative marks and a steady payment history. Know and understand your credit report before applying for a loan (not just your score, the data too). As a borrower you must take all of your financial obligations seriously. The smallest issue can create enough doubt in the borrower’s mind to turn their decision against you.

Professional background such as work experience demonstrated in the business to which you are applying for a loan is also considered under character, in addition to lawsuits, bankruptcy to either the business or personally. The SBA considers additional character points when reviewing a loan request: criminal background, citizenship and legal status within the US. Just because you may have an offense or be a legal permanent resident applying for your citizenship does not mean you are disqualified, but make sure you are upfront and honest about your past.

2. Cash flow

There needs to be adequate cash flow to repay the loan and allow the borrower to pay for all other existing business and personal expenses. The same is true for startups, existing businesses, and projected growth. There needs to be a comfortable buffer between what goes out (expenses) and what comes in (revenue).

On this point it is important to have financial statements and understand them. If you do not have them, there are many resources that can help you create them. Additionally, if finances are not your strong suit, make sure you have someone on your team (employed or vendor/professional, such as a CPA) who handles this for you.

3. Collateral

Collateral are assets the borrower offers to the lender in the event the loan is not paid. The lender will consider business assets first, but if those assets aren’t enough the lender will also consider personal assets. This means there is more at stake than just the loan amount (giving you incentive to pay on time – every time).

Lenders take a lien on the subject collateral, which means if you don’t pay, they can take that collateral from you and either sell it at auction or sell the note to someone who will pay. This allows the lender to recover their loss in full or in part.

4. Capitalizations

This element includes all business resources such as fixed assets, retained earnings, and owner’s equity (cash)—basically all collateral (less debt against said collateral) plus liquid holdings and earnings. Borrowed funds, such as those from the seller of the property you are purchasing, are not considered and do not improve the borrower’s position. Business and personal cash are very important. Having cash and equity is what lenders call “skin in the game” – which lets them know you are serious and equally if not more vested into your business than the lender intends to be. If you are not vested, how can you expect a perfect stranger (lender) to be?

5. Conditions

Factors outside of the business are also considered. Anything that can affect the business’ ability to repay counts, including market conditions, competitors, and industry trends that will affect long-term revenue growth. Be prepared to show how you differentiate from your competitors, how you will buffer yourself from market fluctuations, and how you are adapting to trends in your industry.

The bottom line, lenders can and will look at everything they think will affect your ability to pay. Be prepared by making sure all five C’s are in tip-top shape before you start the conversation with your lender.