The Dangers of Shopping For Business Financing

There is quite a difference between searching for residential mortgage financing and different forms of commercial or business financing.

On the residential and even consumer side, it is a well accepted practice that borrowers will shop for the best deal and could contact several different lenders during their search for financing.  And if a broker is involved, an application for financing can be quickly distributed to a large list of lenders for their individual consideration.

The same is not true with most forms of commercial financing, especially when the transaction value gets into the millions of dollars.

Unlike residential and consumer financing deals, commercial financing is much more difficult to put in place due to the higher degree of risk associated with business financing as well as all the relevant information that may have to be reviewed for any one application.

So when a business owner or manager goes on a shopping spree, sending out their information to anyone they can find that may be potentially interested in their deal, there are several problems that can occur.

First, if several brokers are involved and end up applying to the same lenders, the lenders are going to know that the deal is being broadly shopped around and may decline their interest almost immediately.

Why?

Because they’re not prepared to consume resources on a deal review that has a low probability of giving them any type of return.  Because there is so much work involved compared to consumer financing, they may instead focus their efforts on applications that appear to be more focused on their services.

Second, aggressive shopping is likely going to generate a lot of term sheets from the lenders that are trying to “take you out of the market”.  Terms sheets can provide a basic overview of what is possible, but are no means binding in any way, and there may be a major difference between the best case scenario provided and the more typical rates and terms approved for similar deals.

And even though the borrower is in search of the best deal, these initial term sheets can get them going in the totally wrong direction, by passing the best available options in the process without the borrower being any the wiser.

Third, whether its a term sheet or exaggerated promise, marketing managers and brokers will also overstate what is possible to try and secure the interest of the borrower, knowing full well that it will be highly unlikely that they can deliver in the long run.

Part of this is the lender or broker telling the borrower what they want to hear and part of this is to gain a competitive advantage.

The strategy here is to get the borrower far enough along in the process that there won’t be enough time to go anywhere else and even if a forthcoming commitment delivers less than expected, there may be no choice but to accept it.  But what’s even worse for the prospective borrower is if the application ends up getting declined.  Now they may be out of time with no financing solution, and the shopping process that made so much sense at the beginning has ended in potential disaster.

Shopping for business financing needs to be done with a rifle not a shot gun.  It requires a certain amount of knowledge of the market and the current lending criteria of relevant lenders.  If the business owner or manager does not have time to develop this intelligence, they would be well advised to find someone who does.

As a business financing specialist, this is what I do every day for my clients.  Its all about focusing attention on relevant lenders and working with them to get the deal done.

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