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3 Key ratios to evaluate for member business lending

October 1, 2013
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As part of Sageworks’ ongoing video series addressing some of the challenges and questions regarding credit analysis, Garrett Morris, senior risk management consultant at Sageworks, explains the 3 key ratios when evaluating member business lending (MBL).

 

From the video

There are three key ratios related to member business lending: debt service coverage ratio (ultimately assessing cash flow), leverage coverage analysis (that’s where we’re looking at debt to tangible net worth) and industry assessments or industry comparisons.

1. Debt-service coverage ratio is simply your cash flow analysis and is looking at the borrower’s ability to repay their debt. Debt-service coverage shows a firm’s ongoing ability to repay principal and interest on loans, and it is calculated as EBITDA relative to the current portion of long-term debt and interest. Commonly, most institutions want to see the debt-service coverage ratio around 1.25 or 1.5, to provide evidence of a strong cash flow capability.
2. The second key metric is debt to tangible net worth. Debt to tangible net worth is assessing the total debt of the borrower against the total net worth of the borrower. A good debt to tangible net worth figure would be anything under 1. If a borrower’s debt to tangible net worth was 4 to 1, the borrower would maybe be considered highly leveraged, and that would indicate there is some financial unsteadiness with the borrower’s ability to repay that debt.
3. Lastly, industry analysis is very important as well. Industry analysis is simply assessing the borrower against their peers, against the industry, to see where they fall in line. Often, a financial institution would want to assess as up-to-date or as current information as they possibly can when looking at the industry against their borrower.

For more information on how the MBL landscape has changed, what risks come with MBL, and how to mitigate those risks download the whitepaper, titled: Member Business Lending Landscape. Or, register for the upcoming webinar, titled: How to Manage Risk in Member Business Lending.

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