As noted in the first article in this series, The New World of Business Credit, the rules have changed drastically in the post-crisis world of business credit. Even strong businesses that can demonstrate years of profitability and success are finding it tough to secure commercial financing.
With the stricter underwriting standards now in place at most commercial banks, small businesses must be extra diligent when preparing their loan requests. And in the vast majority of cases, the most important part of the loan request is the financial presentation.
Your bank will likely require detailed financial statements and documentation to analyze your loan request. These usually include the following.
- Current and year-end financial statements (balance sheet, income statement, and cash flow statement) for the past two to three years
- Business and personal tax returns for the past two to three years
- A personal financial statement
- Accounts-receivable aging schedules and current inventory reports
Given the increased emphasis that banks are placing on the ability of small business borrowers to generate sufficient cash flow to service their debt, your bank will probably be especially interested in your cash flow statement. This statement ties the balance sheet and income statement together by reconciling the change in your company’s cash position from the beginning of the period being measured to the end (usually one calendar year).
Most important, the cash flow statement provides a detailed look at your business’s cash flow cycle, which is the time it takes to convert cash from raw materials and inventory to sales, then to receivables, and then back to cash again. It’s during this cycle that many businesses (especially manufacturers) run out of cash and fail.
Of course, this may be the very reason you’re seeking business financing. If so, that’s OK -- just be aware that your bank will want to see a detailed plan for how its loan will help you bridge your cash flow gaps and how you’ll be able to generate enough cash flow through the normal operation of your business to repay the loan.
As you prepare your financial presentation, be sure all financial records and information are up-to-date, especially your collections efforts and accounts-receivable agings. Also demonstrate that your accounting and bookkeeping systems are adequate, your federal and state tax obligations are current, and your sales and cash flow forecasts are based on reasonable and realistic assumptions.
When analyzing your business finances, your banker will probably look especially closely at the following areas. Be ready to answer these questions beforehand to increase your chances of walking away with the financing package you desire:
- Sales: Are sales increasing, decreasing, or holding steady? Be prepared to explain why.
- Margins: What are your gross margin trends? Shrinking gross margins are a flashing red light to bankers.
- Overhead: Increases in overhead that are proportional to sales growth will probably be all right, but your banker will be concerned if overhead is rising faster than sales.
- Collections and inventory: Are accounts receivable and inventory turns slowing down? This is another potential warning light for bankers, as are slowing trade payables.
Be sure to read the first article in this 2-part series: The New World of Business Credit.