Understanding what banks look for – part 3

Seeking finance can be a daunting task, even for the most confident business owner. But, with careful planning and a clear view of what the banks are looking for, the burden of obtaining finance can be greatly reduced. 

Put simply, your bank is looking for three things – information, security and experience, and the first place they will look is at your financial statements.

Our three part series looks at the core components of your financial statements from the perspective of a typical bank.   In part one we looked at the balance sheet, part two we looked at the and profit and loss statement, now we turn to the cash flow statement.

Cash flow

To understand the future profits and the ability of a business to meet ongoing financing commitments, the bank will typically want 12 to 24 months of projected cash flows. The profit and loss, while relevant, is essentially a historical document. The cash flow will demonstrate the direction the business is going, including growth expectations and cash flow requirements.

A typical funding facility will include long-term financing with a term loan or commercial bill but the bank will also generally provide a short-term facility such as an overdraft. The overdraft is there to enable a business to deal with the peaks and troughs of cash flow.

For instance, many retail businesses will have fluctuating cash flow requirements around Christmas. Prior to Christmas, the business may need significant cash reserves to build up stock levels then throughout December the stock will be converted to cash sales, taking pressure off overdraft facilities.

Importantly, when preparing a cash flow you should demonstrate to the bank the ability to make interest payments and principal repayments if required. For example, if requesting an additional $2 million in funding, your cash flow should incorporate the additional interest payments required on this facility.

It is vitally important that the forecast be realistic. Businesses will often prepare extremely optimistic profit projections to gain favour with the bank, but you don’t want to give the impression that you don’t actually need money from the bank. Be careful not to outsmart yourself!

Obtaining business finance in the current economic environment is proving extremely difficult.  Ensuring that your financial statements are in good order and showing the bank what they want to know will make a significant difference.