Most of us have heard of the phrase cash flow. While some know the meaning, others don’t. For those who don’t know, let’s look into what it means. There are basically two instances when this term comes up. First, when the business is on-going or existing, it is referred to as historical cash flow. Second, when it is a start-up or a new business, lenders rely on what is referred to as, projected cash flow.
In Business Financing, Cash flow isthe ability to pay back a loan adequately or with a reasonable buffer. When this is not thought out completely by the client or their certified public accountant, is when lenders decline loans due to the business’s inability to demonstrate enough cash flow to repay the loan. Now, CPAs know how to calculate and show a net profit at the bottom of a company’s financials or tax returns, and also know its significance or impact. My former colleagues from the banking community may agree that most of the times this is one of the major reasons why we decline loans.
As a former banker and SBA loan officer, I used to go through each line item on tax returns and ask the client or the CPA many questions, hoping to get a reasonably explainable story behind the numbers. Funny thing was that most of the time I asked those questions, I received answers which I already expected. The exercise was usually to check the guarantor’s honesty and character.
The common problem is, most Business owners, nor their CPA really know exactly what the bank is looking for in terms of adequate cash flow. Therefore tax returns typically fall short of showing net profit – often carelessly overseen, in my frank opinion! Keeping expansion goals in mind, the CPA and Business owner should align all the ducks in the row to be able to remain bankable, at least from a cash flow perspective.
Entrepreneurs are well aware that money makes money. You have to invest or spend money to make more money. My point being, entrepreneurs must be prepared to show adequate net profits and consequently be prepared to pay higher taxes. If they don’t show the ability to pay back, that application will beg for an automatic decline, as Lenders seek extra comfort.Higher net profits increase tax liability vs. showing the ability to sustain loan payments, make sense yet? This is a common problem that too many business owners face.
So to conclude, showing stronger net profit or cash flow can result in paying higher taxes but if that results in getting more capital or financing, it is surely a good thing! I tell people, it’s either you want the money or you don’t, and ironically in this case, each business owner controls their own destiny on whether they should be given a loan or not.