The Anatomy of a Funding-Ready Business

Getting approved for commercial financing isn't simply about having good credit.

Banks, credit unions and other commercial lenders evaluate the entire financial picture of a business. Two companies with identical revenue can receive very different financing outcomes depending on cash flow, leverage, liquidity, collateral and how the transaction is structured.

Here are the nine areas lenders typically evaluate when determining whether a business is ready for additional capital.

1. Cash Flow

One of the first questions a commercial lender asks is simple:

Can the business reasonably support the proposed debt?

Lenders evaluate historical profitability and cash flow and compare it with existing and proposed debt payments.

A commonly used measure is the Debt Service Coverage Ratio, or DSCR. A business may generate substantial revenue and still struggle to obtain financing if its available cash flow is insufficient to support its debt obligations.

2. Existing Debt

Lenders want to understand what obligations the business already carries.

This may include:

• Commercial mortgages
• Equipment loans
• Lines of credit
• Vehicle financing
• SBA debt
• Seller notes
• Other business obligations

A current debt schedule helps lenders understand balances, monthly payments, maturity dates and available borrowing capacity.

3. Liquidity

Cash matters.

A borrower may have strong profitability but still create concern if nearly all available cash is required to complete the transaction.

Lenders often evaluate both:

• Cash available to contribute toward the transaction
• Liquidity remaining after the transaction closes

Maintaining adequate reserves can materially strengthen a financing request.

4. Leverage and Equity

The amount of borrower equity required depends upon the transaction and financing structure.

A commercial real estate purchase, equipment acquisition and business acquisition may each require different levels of borrower participation.

Generally, more borrower equity reduces lender risk and can strengthen the transaction.

5. Historical Performance

Lenders typically review multiple years of financial history.

They may look for:

• Revenue trends
• Profitability trends
• Margin stability
• Significant one-time expenses
• Customer concentration
• Seasonality
• Major changes in the business

One difficult year does not necessarily make a business unfinanceable.

The important question is understanding why the financial results changed and whether those conditions are temporary or ongoing.

6. Credit

Credit remains important, particularly when business owners will personally guarantee financing.

However, credit is only one component of commercial underwriting.

A strong credit score does not automatically overcome weak cash flow — and an imperfect credit profile does not automatically make every transaction impossible.

7. Collateral

Depending upon the financing request, lenders may consider collateral such as:

• Commercial real estate
• Equipment
• Accounts receivable
• Inventory
• Other business assets

Some transactions rely heavily on collateral, while others are primarily cash-flow driven.

8. Management and Industry Experience

When financing a business acquisition or significant expansion, lenders also evaluate the people running the company.

Relevant experience can become an important strength — particularly when acquiring another business or entering a specialized industry.

9. The Transaction Itself

A financially strong borrower can still present a poorly structured transaction.

Lenders will consider:

• Purpose of financing
• Purchase price
• Requested loan amount
• Borrower contribution
• Collateral
• Repayment terms
• Seller financing
• Timing
• Sources and uses of funds

This is why commercial financing should begin with strategy rather than simply completing an application.

Good Businesses Don't Always Fit Every Bank's Credit Box

A business may be profitable and established and still receive a decline from a particular lender.

Banks and credit unions have different:

• Industry appetites
• Geographic preferences
• Loan-size limits
• Collateral requirements
• Concentration limits
• Underwriting policies

The objective is not simply to find a lender.

The objective is to structure the transaction properly and identify a lender whose credit appetite fits the opportunity.

How Ready Is Your Business?

A&B Funding Solutions created a Capital Readiness Assessment to help business owners evaluate how lenders may initially view their financing profile.

The assessment reviews areas including:

• Cash flow
• Existing leverage
• Liquidity
• Credit
• Business strength
• Transaction structure

The result is not a loan approval. It is designed to help identify potential strengths, possible underwriting concerns and areas that may need additional attention before approaching lenders.

See how prepared your business may be for its next financing opportunity — take the free Capital Readiness Assessment.