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Some lending deals fall through not because a business is a poor credit risk but because lenders cannot be satisfied by the information provided. Any lender needs to properly understand a business if it is to have confidence in that business and its management team. Below we detail the information businesses should provide for effective communication.
Cash flow – Provide data that shows you understand and can manage your working capital (debtors, creditors and stock) and that the cash in your business is sufficient to cover the bank’s interest (as well as other key costs such as tax, dividends and replacement capital). “Cash is king” and even profitable businesses can fail if cash is not managed. Understand your cash movements and you may even need to borrow less.
Outlook – Present forecasts which communicate the amount required, payback period, risk and return to the bank. Figures should be more sophisticated than forecast sales and profit and should ideally show the relationship between profits, your balance sheet and cash flows. Sensitivity analysis is important to help the bank understand when they risk non-repayment. Forecasts should always be based upon the most up to date actual data.
Market – Explain your market. Focus 20% of your efforts explaining what has happened and 80% on what you expect to happen and why. Don’t worry top economists don’t get this right all the time either. The point is you need to show the bank you have thought about it, considered the likely outcomes and that you have a clear action plan.
Mix and quality of clients – Detail clients by name/industry/region/contract length. The strength of your clients and their ability to pay = the strength of your business. Building your business around one client is high risk.
Up to date information – Give the bank up to date management information especially if annual accounts are dated. Information should be produced at least quarterly, split by product/division if necessary and include profit, balance sheet and cash flow breakdowns. Management information should be used to update forecast/budget data with differences explained.
Near cash assets and liquidity – Show the bank that your business is liquid and can survive. Tell them how quickly you could get your hands on the cash and know debt maturities, credit terms and what cash is tied up in assets. Think beyond a simple current assets/current liabilities ratio and consider your ideal liquidity position. Remember though too much liquidity means assets could be generating a higher return elsewhere.
Income – Know your financial definitions. Are you talking about gross profit, operating profit, net profit or EBITDA (earnings before interest tax, depreciation and amortisation)? All are common in the financial analysis of businesses. Also ensure you can discuss the seasonality and cyclicality of your business.
Competition – Tell the bank how you have performed in comparison to competitors. Be prepared to discuss their strengths and weaknesses. This provides confidence that you are a proactive and really understand your market.
Activities – Break your business down by activity/division and explain which activities are performing well, which are a cash drain and why. Know how divisions complement or overlap each other and the strategy for each.
Track Record – Unless starting up, provide at least 3 years accounts (5 years ideally if approaching a new bank) and up to date management accounts. A bank will need this data for the financial analysis of trends in ratios and margins. It will also give them confidence in your management track record.
Equity, Debt and the Balance Sheet – Communicate your risk (equity/debt) versus the risk to the bank. Know the real strength of your balance sheet by having current market values of assets to hand and full details of debt (including off-balance sheet exposure such as leases and guarantees). Be clear at the outset what security is and is not on offer.
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Posted on 21st Oct 2021
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