Regardless of whether interest rates are high or low, the ability to borrow is an important factor in running a business. Whether you need to borrow money now or in the future, it’s good business practice to know what information a banker or other lender will need to grant your loan request. This information falls into two broad categories.
The first is general information about you, your business, your product or service, and your plans for the firm. While some banks will gather this information from a loan application, it is wise to prepare a clear, written presentation of the general facts about you, your firm and the product or service. This should be in the form of a business plan.
The second type of information a lender needs is financial information. This includes several key documents, each of which plays an important role in the lender‘s decision.
GENERAL INFORMATION
You’ll probably be asked to supply some of this information on the loan application, but you can often provide additional facts that will have a favorable impact on a lender. That’s why it’s good strategy to prepare a written presentation that gives a lender a clear description of you and the business industry you are in. Here is a checklist for the general information you should include in your written presentation:
1. Your management background, abilities, and accomplishments as well as
those of your key management personnel;
2. A general description of the nature of the industry or business you are in;
3. The sale potential of your product or service. This should include your short-term and long-term marketing plans and how you intend to handle any problems or opportunities which your business face;
4. An explanation of exactly how the money you are borrowing will be spent, whether the amount is sufficient for your immediate or long-term purposes, and how the borrowed funds will contribute to your firm’s overall well being.
In short, your general information presentation should tell the lender who you are, what your business has done and what you expect to do, how you intend to reach your goals, and of course, how the money you are borrowing will help you achieve those goals. If you make a logical presentation of this general information, you will set the stage for a clear understanding of your financial information.
FINANCIAL INFORMATION
It is critical that you present all financial information in a formal, professional manner. A sloppy financial presentation is almost certain to result in the rejection of your loan request. The following financial documents should ge prepared by your accountant:
1. A personal financial statement for you and other principals of the business or other guarantors of the loan. Be sure that your personal financial statement includes the amount of money that you yourself have a risk in the business;
2. A balance sheet which shows your company’s assets and liabilities for your most recent accounting period. It’s important that the balance sheet includes the amount of the company’s present indebtedness and the terms of repayment of any outstanding loans. Copies of recent company tax returns should be attached to the balance sheet as supporting material;
3. An income statement which shows the company’s profit performance over a specific period of time;
4. A cash flow projection which includes the prospective loan funds and other sources of money and shows how the money will be used;
5. A sales forecast which projects and preferably allocates sales by type of customer over a given period of time;
6. A current ratio position which shows the relationship between the company’s current assets and current liabilities;
HOW BANKS USE RATIOS TO MEASURE YOU
When bankers and other lenders look at on your company’s financial statements, they use financial ratios to quickly develop a profile of your business. An understanding of the most common of these ratios cannot only help you in your dealings with your banker, but it can also be a valuable tool to help you manage your business better.
To assess the company performance, bankers compare your financial ratios to those of other companies in your industry, so whether your ratios are good or bad depends on the type of business you are in. Of the dozens of financial ratios that can be computed, here are the six that many bankers, accountants and business executives consider the most meaningful.
A. Current assets to current liabilities. This ratio is also called a “current ratio”. It is an indicator of your company’s ability to pay debts that are due within a year. In calculating this ratio, “current” assets mean “liquid” assets such as cash, receivables, inventory, and marketable securities. Many lenders consider this ratio the most important of all and look for a current ratio of as least 1 ½ to 1.
B. Net after tax profits to tangible net worth. This ratio is an important indication of profitability and of how well you manage your business, because it measures return on investment. A high percentage return on investment is an important sign that a business is healthy.
C. Average collection period of receivables. By dividing accounts receivable by average credit sales per day, you can calculate your average collection period in days. This will tell you the extent to which your operating capital is tied up in receivables. For example, if your average collection period is 80 days and your credit terms are 30 days, your collection procedures may need improvement or some of your larger customers may be well past due.
D. Inventory turnover. By dividing net sales by average inventory in a given time period, you can determine who many times your inventory has turned over. Because it is based on financial information, this turnover does not represent actual physical inventory turnover, but if it is high, it is usually an indication that your inventory turnover is good.
E. Fixed assets to tangible net worth. This ratio shows what portion of your capital is tied up in plant and equipment and therefore is not available for operating capital or for payment of debts. It is a measure of the liquidity of your company’s net worth.
F. Total debt to tangible net worth. This ratio is often critical to bankers because if your company’s total debt is greater than its tangible net worth, your business is considered to be under-capitalized; much like the banks are right now. Inadequate capitalization is usually a red flag to a loan officer.
WHAT IS MY ROLE… YOUR ACCOUNTANT
It is important to involve your accountant in both the preparation of all financial documents and in your meetings with the lender. Your accountant can supply whatever degree of asurance about the financial information that your lender may require. The degree of assurance will vary, depending on matters such as the lender’s previous experience with you, the size of the loan, and how well the bank knows your firm.
For example, audited financial statements may be required if you are requesting a large loan and the lender has not had any previous experience with your company. In other situations, a review of the financial information by your accountant may be sufficient, particularly if the lender has had previous dealings with and your firm.
It is generally recognized that banks credit standards vary among banks, some banks have tighter credit standards than others. But if you’re properly prepared and make a solid presenetation, your chances of getting that vital business loan will be greatly improved.
CALL ON ME
The intellectual capital is of general nature and should not be acted upon without professional guidance. As the founder and managing member, I want to be your guide. So if you know someone that is looking for a way to save taxes and avoid IRS audits, call me at (702) 642-8953 or write me at isueirs@aol.com. No Exceptions. No Conditions, No Time limit. No IRS.
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