Sitting across from your banker can be both exhilarating and excruciating.
It’s excruciating when you’re in dire need of cash and aren’t sure if your financials are strong enough to convince your banker to give you the loan you need. It’s exhilarating when they are and you get what you need.
When we first started our manufacturing company, I was fortunate to encounter a patient banker who was willing to explain the importance of a “strong balance sheet”. (Thank you John Ingebrand, Kanabec State Bank.)
Here are the ratios John taught me were critical to success.
- A current ratio of at least 1 ensures that you have enough assets to cover your short term obligations – the bare minimum. Having a current ratio greater than 1 gives you the cushion you need to cover unexpected expenses. This ratio is sometimes referred to as your company’s current working capital position.
Cash Flow to Debt Ratio
- This ratio provides an indication of your company’s ability to cover total debt with yearly cash flow from operations. The higher the percentage ratio, the better your ability to carry total debt.
Debt to Equity Ratio –
- This ratio shows your company’s ability to pay off creditors in the event of a decline. A low ratio indicates lower risk. A higher ratio warns that the company has been aggressive in financing its growth with debt and may be a greater credit risk.
Learn to generate and understand these ratios yourself and you won’t be caught unaware by what your banker discovers. Knowing where you stand financially will give you the confidence you need when seeking funding for that next big project.