How Your Debt to Asset Ratio Affects Your Business Loan Application

A debt to asset ratio determines your net worth. Basically, your debt is subtracted from your total asset base to determine how much your business would be worth if it was sold tomorrow. When you are applying for a business loan, the value of your company will be an essential factor in deciding your future profitability. Furthermore, companies that have managed debt well pose less of a risk to lenders.

Future Profitability

You will submit a business plan along with your loan application. Aside from business aspects, the business plan must cover financial basics. This means you will have to show your profit model and projected profit in the future. You will submit at least 3 years of financial reports for review from the lender to prove your statements are true. If you are starting a new business, your personal assets will be used to measure your net worth, and the financial projections will become even more important. Your ability to be profitable in the future assures the lender against assuming too much risk with the loan.

Debt Management

Companies that have incurred very little debt and managed it well will be more attractive borrowers. If you already have a handsome sum of debt, your future lender may be concerned you cannot take on additional monthly payments. The lender may also fear consolidation on your part and think you will modify your loan in the future, costing them valuable profits. While it is good to show you have some debt, especially debt that is diverse, too much debt is simply a red flag for another lender.

Ability to Recover in Bankruptcy

In the end, a senior lender wants to know they will recover funds in the event your business goes bankrupt. Businesses with real estate assets all over the world, for example, will typically be able to liquidate and pay off debts if they cannot continue to survive as a business. On the other hand, an Internet company with no more than a small home office has very few assets to sell off when going bankrupt. Remember, your book of business may be considered an asset. If you can sell your clients to another competitor, this is an assurance the lender is aware of.

Increasing Your Assets

When the time comes to seek a loan, you may find your asset base is too small. Many will consider adding in personal assets, but this is a high exposure to risk. A better method may be to seek investors or subordinate lenders. If you can receive funds without placing any collateral on the line, then the loan or investment will appear as sheer equity in your business. You may approach mutual funds, private equity groups or even angel investors in your immediate network about your business model in an attempt to raise your asset base.