Everybody wants lower cost debt. Whether a company borrows only occasionally to meet working capital needs or has multi-million dollar loans for site financing, lower interest rates mean higher bottom-line profits.
The first key to lower loan rates are good financial ratios. The better a company’s ratios, the less financial risk to the lender, and hence, the lower the interest rate charged. Here are the most common ratio benchmarks:
Debt Coverage – Annual profit plus depreciation should be no less than 1.5 times the amount needed to pay all required principal loan payments during any year.
Current Ratio – Defined as Current Assets divided by Current Liabilities, most banks prefer a ratio of 1.5 to 1. Some industries will have slightly different preferred ratios.
Debt to Worth – Divide Total Liabilities by Net Worth and your answer should be no more than 3.0 to 1 to keep your banker happy. The inverse of this ratio is owner’s equity which is Net Worth divided by Total Assets. Owner’s equity should be no less than 25%.
The second key to obtaining low-cost financing is knowing how to get it. If your company meets or exceeds the ratio guidelines listed above, inform your lender. Next, gently mention that your loan business is sought by other institutions (including supplier loan programs). Then, use a bid process to secure the most favorable loan rate.
A first rate loan package should include:
- A concise summary of funds requested.
- Clearly identified multiple sources of repayment.
- Three years of financial statements with an explanation of all income statement and balance sheet trends.
- Calculation of key financial ratios and special mention of areas where you exceed the industry average.
- Additional helpful information such as accounts receivable aging and listings for a working capital line request or a capital spending budget for an equipment line request.
If your company is financially strong and you have clearly articulated this fact to your lender, your reward should be their very best loan rates. If not, seek a lender who wants and appreciates your company’s low-risk financial position.
