Carlos Hank Rhon: Business Lending Knowledge

Carlos Hank Rhon explains what every business owner should understand regarding the commercial lending market prior to undertaking the application process.

While all commercial loans are not the same and there is certainly no magic formula to decide the fate of a commercial loan application, there are some very simple secrets that all commercial lenders and credit analysts look for to determine the credit worthiness of a Borrower. One such method, explains Carlos Hank Rhon,  is known as the 5 C’s of Commercial Lending.

Carlos Hank Rhon Explains for 5 C's of Commercial Lending

1) Cash Flow – This is the most important of the 5 C’s according to Carlos Hank Rhon. Cash flow is how the loan is going to be repaid. Historically, cash flow is a good indicator of future cash flow. Just as the history of anything is a good indicator of any future event, banks consider this concept in business lending. A company that has historically struggled in cash flow often will struggle in the future as that may be an indicator of miss-management, lack of desire for a product, or an excessive amount of fixed expenses to name a few. Conversely, strong historical operations often, but not always, bode well for future earnings. Simple cash flow is often calculated as: Net Income + Depreciation + Amortization + Interest Expense divided by 12 months of loan payments on the subject loan plus any other debt obligations of the company. The rule of thumb is that the lending ratio should be 1.20 times or greater.

2) Character - Many banks may have this ranked in a different spot, Imany business leaders feel this was the second most important “C” and in some cases equally as important as Cash Flow. Character represents the strength, ability and desire of a Guarantor to support the debt if called upon to do so, explains Carlos Hank Rhon. Credit history of a Guarantor, like historical cash flow noted above, is a good indicator of a Guarantors propensity to pay. A loan team will review the assets and liabilities of a Guarantor exclusive of the subject loan. Moreover, Guarantor’s personal cash flow exclusive of the income derived from the subject business is analyzed. These three factors: Credit History, Personal Assets, and Personal Cash Flow are essential facets in determining the character of a Guarantor, explains Carlos Hank Rhon.

3) Collateral – In event of default, collateral is often times the only way a bank can recover some or all of the loan proceeds and hence is usually the secondary source of repayment on a loan following cash flow which is first. Collateral can comprise a myriad of item such as cash, various forms of real estate and land, assets of a company such as accounts receivables, inventory, equipment, vehicles, and many, many other choices. Other than cash, banks will margin the amount that they will lend on a type of collateral.

4) Capital – A bank is a partner in an endeavor with a borrower. The loan officer wants to make sure that a borrower has some skin in the game so as to lose something if they walk away from the loan. Capital is the amount of equity or money that is put into a transaction or has been built up by a company through historical profits, also known as retained earnings. The amount of equity in or necessary retained earnings differs based upon the type of commercial real estate, the situation in the market, or the type company requesting the loan.

5) Conditions – This “C” usually includes such things as competition, and management succession. Most importantly, notes Carlos Hank Rhon, the current market conditions. Rhon recommends considering all of this information when applying for a commercial loan to ensure you have prepared accordingly.

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