For a new business – or any business involving a complete change of ownership – to qualify for a loan, SBA requires fully-documented projections showing how the business will achieve positive cash flow within two years.
I’m sure we don’t need to say be careful with the assumptions involved. We all know the old saying about what “assume” really means!
With that in mind, let’s take a look at some of the requirements, challenges, cautions, and recommendations, both from the standpoint of the initial SBA loan package and for loans in difficulty.
Requirement: SBA states – in the SOPs as well as through their general communication and in screen out documentation – that the first year of projections must be month-to-month.
Requirement: If the first year’s projections don’t meet the required debt service coverage ratio (DSCR) of 1.15:1, then the second year of projections must also be month-to-month.
Challenge: Borrowers aren’t always clear on how to support their projections with relevant, reasonable, attainable assumptions. SCORE – which is, as you know, a tremendously helpful resource for small businesses – can help the Borrower with this.
Caution! Don’t take responsibility for preparing projections for your Borrowers. This can be a Lender liability. To say it’s not recommended would be an understatement, and this is why we suggest referring them to SCORE.
Caution! One of the top reasons for screen outs at origination is a lack of projections and supporting assumptions, or assumptions that don’t appear reasonable or relevant to the business.
Recommendation: SBA SOP 50 57 3.1, “7(a) Loan Servicing and Liquidation,” released on December 1st, 2024, doesn’t include a requirement for projections with assumptions when contemplating a workout. However, projections – and their assumptions – are just as important in workouts as in initial loan origination. Those projections are essential for Lenders to determine business viability when considering a workout on troubled debt.
And one more Caution! In an early default, if SBA determines that the Borrower’s projections and their assumptions didn’t support successful loan performance, they may deny the guaranty. Again: solid, reasonable, relevant assumptions are important, or you will fall prey to that other meaning of “assume.”
And a final Recommendation: Remember these two key phrases: Prudent Lending and Commercially Reasonable. Are you taking actions, as one of last year’s NAGGL conference presenters urged, in a manner that protects your interest and that of SBA’s? Were those actions done in good faith, fair, and did they follow commonly accepted commercial practices?
Yes, it takes a little extra time to validate a Borrower’s assumptions about their projections. It’s natural for a business owner to have a rosy view of their business’s future; they wouldn’t be going into business if they didn’t think their idea was viable. Which means it’s all the more important for you as the Lender to take an objective assessment of their proposal for financial success.
If you’d like an independent review of your SBA portfolio from experienced SBA consulting group, SBA loan packaging or SBA training for your team on how to evaluate projections and their assumptions, give us a call. We’re here to help!