Your business credit score can shape your future. It can dictate who will lend to you, at what rates, and on what terms. In short, it can mean the difference between getting the credit you need to build a successful business and facing ongoing funding problems. So what exactly is your credit score and how can you improve it?
In simple terms, your credit score is a number between 300 and 850 that indicates whether you are a good or a bad risk as a borrower. The score is calculated via a complex algorithm that changes constantly as you take out new forms of finance and repay them – or not, as the case may be. Your payment history makes up 35% of the score, the amounts you currently owe 30%, the length of your credit history 15% and your mix of credit and amount of new credit 10% apiece.
However, what do these criteria really mean and how will they change as your borrowing behaviour evolves?
Your credit score starts with payment history
This is the single biggest factor used to calculate your credit score, with past behaviour being used to predict how you will conduct yourself in the future. The more credit you have paid back on time and in full, the better, with any late or missed payments reducing your score.
Any such breaches of borrowing agreements will also be weighted according to when they occurred, with more recent issues being much more serious. However, even if you’re currently in arrears, you can rest assured that your credit score will improve over time if you start behaving responsibly and continue to do so into the future. In fact, any such issues disappear from your credit score altogether after seven years.
This criterion takes two issues into account: the total sum you owe, as well as that amount relative to your total credit limit. With structured business loans, you will obviously be using the bulk of your credit limit near the beginning, with your capital balance steadily reducing as you make payments. In contrast, with revolving credit – such as a line of credit or business credit card – you can borrow and repay at will.
Your credit score will focus on your revolving credit, with high balances seen as a negative, since interest rates tend to be higher and substantial revolving debt frequently indicating a business with ongoing cash flow problems.
Length of credit history
When you take out your first business loan or credit card, nobody knows whether you are likely to be a responsible borrower. The longer your history of financial behaviour, the more closely financial institutions can predict your conduct in the future. As a result, new borrowers will tend to have a lower credit score for the first year or two, whilst companies with a lengthy track record of responsible borrowing will score much more highly.
Mix of credit
Different types of credit place different challenges – and temptations – in borrowers’ paths. For instance, the consequences of missing payments on a secured business loan are much more serious than missing the due date for a credit card – in the former instance, the borrower can seize your home or other asset used as security. To understand how you will deal with their particular form of business finance, lenders prefer to gauge your behaviour across a range of credit types when looking at your credit score.
Amount of new credit
Most businesses’ financial circumstances – and hence borrowing needs – will evolve as they mature. Over the years, they may find themselves taking out and repaying some combination of secured and unsecured loans, overdrafts, lines of credit and credit cards. As they do so – and assuming they repay responsibly – their credit score will steadily improve. However, if a company suddenly takes out several different forms of finance simultaneously, their credit score will drop – this can be a clear indicator that the company is overreaching itself or has encountered sudden and serious financial problems.
However, whilst all the major credit bureaux use the same algorithm, this doesn’t mean that your credit score will always be the same. Some lenders may report to certain bureaux and not others or do so on a different timescale, so you may find one agency reporting a more favourable score than another.
That said, the strategy to maximise your credit score remains unchanged across different bureaux. The first thing to do is make sure you repay all borrowing on time and in full. Secondly, you should regularly check your credit score to make sure no errors have crept in – and that you don’t have outstanding sources of credit you’ve simply forgotten about.
If there are mistakes, you should immediately notify the credit bureau in order to have them rectified. Finally, look at your utilisation ratio on credit cards and other revolving accounts, and where possible keep this below 30% of your borrowing limit. Paying down credit cards won’t just improve your credit score – it will also save you a great deal of money in interest.
Finally, if you need to borrow but are hampered by your credit score, talk to Cashsolv. As an alternative lender, we apply different criteria from banks, and a mediocre credit score may be far less important to us.
We can offer a broad range of solutions, from asset-based finance (where you borrow against the value of your premises, plant or equipment) to emergency business loans (where you can have the money in your account inside 24 hours) and invoice factoring and discounting (allowing you to borrow up to 85% of the value of your invoices as soon as you issue them, with repayment being made when your customers pay you).
To learn more, please visit our business finance page.