—Sponsored article by Blue Chip Leasing
As we get through the holiday season, many people use this time to look ahead to the coming year and the financing needs they may have.
A lot goes into getting a lender to approve a loan or lease application, particularly in this industry because the typical transaction is significant, even if a manufacturer is looking for only one piece of machinery.
If you need equipment for your shop, it’s time to look at your financial status. But what does a finance company look at when reviewing applications for equipment financing?
Consider the following essential items that any lender will review along with some tips on how to get an approval in place for a badly needed piece of machinery:
1. QUALITY ASSET AND SELLER
The first thing any lender will look at is the asset that is actually being financed. When it comes to machine tools, anyone with industry knowledge knows a good brand-name machine tool has excellent resale value. Remember, a lender’s first concern is an exit strategy in the event a deal goes badly. Lenders want the comfort level that comes with knowing the asset can be resold with relative ease and that a significant portion of the outstanding balance can be recovered.
There also will be a review of the vendor (equipment seller) to ensure it is reputable and can provide service and support for the product either as an authorized dealer or an experienced reseller.
Every lender will ask the question, “Why is the equipment required?”
Almost all of my customers have one of two stories. The first story is that they have old, outdated machinery that has seen better days and need to upgrade to newer technology. They are tired of breakdowns and delays, which cost money and upset their customers.
Manufacturers with the second story are growing, have landed more business, and just do not have the capacity to handle the additional work, so more equipment is required.
A question I get all the time is about transaction size. The reality for most lenders working in this industry is that the transaction size is limited only by the size of the company making the inquiry.
The amount of funds a typical finance company has available is, for the most part, limitless. It’s the financial strength of the borrower that determines how much financing is available, so it is very important to make a realistic request, and not one that is beyond what the borrower can pay.
A lender will review the borrower’s working capital and cash flow to determine if it can handle its existing current loans and expenses before adding more debt. Another factor looked at is the debt-to-equity ratio, a financial ratio that shows what proportion of equity and debt the company is using to finance its assets.
A high debt-to-equity ratio indicates more creditor financing (bank loans) are being used than investor financing from ownership.
Last, the lender looks at retained earnings—the profits retained by the company that are reinvested in its core business and are not paid out as dividends—as well as tangible net worth, the sum of all the tangible assets (cash, equipment, property) minus any liabilities.
Depending on the amount of the financing request, it is the financial statements of the applicant that will show the earnings, net worth, and liabilities.
I always recommend to my clients that they use a registered accountant (member of CPA) from a quality accounting firm as opposed to a tax service that is less expensive. The difference in the quality of the report is substantial, and a well-prepared report will provide much more comfort to the potential lender.
The three key types of financial statements are notice to reader, review engagement, and audited.
The larger the financing request is, the more detailed the financial statements must be. Also, internally prepared statements, called interims, for the current financial year may also be required if the accountant-prepared statements are more than six months old.
This may seem completely intuitive, but some research time should be spent finding the right lender.
Canadian manufacturers are in a very specialized and highly competitive business, so their lenders need to have a good understanding of the industry to provide proper service.
When a traditional bank cannot provide lending services, it is very important to find an alternative source that specializes in the manufacturing industry. Even if the bank has been great to deal with in the past, it’s still necessary to have options. I tell all my clients that just like you have more than one customer, you should also have more than one lender.
This column originally appeared in the January 2018 edition of Canadian Metalworking.
The article is part of the Financial Management Success Centre, showcasing strategies to access working capital, reduce costs, and leverage the value of shop floor equipment.