It clearly takes cash flow to pay down your loan. There are five places for it to come from in a business:
- Cash flow from operations
- Cash flow from selling off assets
- Cash flow from borrowing money from someone else
- Cash flow from owner capital contributions
- Cash flow from running down cash balances
When the lender considers whether you can afford the loan you are requesting, they look to see if cash flow from operations will cover it. The other four are the back-up plan.
If cash flow from operations in recent periods has been insufficient, the Statement of Cash Flows can show the lender where you are getting the money instead.
Cash flow from selling off assets
This will make a lender nervous. If you have taken this route, be sure to let them know if the assets you sold are no longer needed in your current business model. If they are critical to your operations, are you now leasing the same equipment on an as needed basis? Do you plan to continue this or do you expect to replace the equipment.
Cash flow from borrowing money from someone else
Yikes! This will definitely make them nervous. Help them understand what your overall plan is and when you need to pay those loans back. Borrowing long-term to solve short-term operating losses is generally not a good idea. That said, during a downturn the fact that you borrowed from someone else and kept current on their loan payments might be a plus.
Cash flow from owner capital contributions
If you are short operating cash flow to pay your debts, this might be the source your lender would most like to see. ‘Coming to the table’ to save the day is a good thing. Of course, they might wonder where the capital contributions came from and if that leaves you short personally.
Cash flow from running down cash balances
If your company had excess liquidity this is okay in the short run. The reason to have good liquidity is to have a back-up plan in a downturn. The lender will look to see how much longer you can do this without leaving the company short of cash.