business debt

[Steve Bullman]

Heres a question to all of you who know a bit more about business than i do(about 99.9% of you probably). Is there a figure thats considered an acceptable level of debt in a business? ie, a rule of thumb such as x percentage of annual turnover?

 

just curious

[raafbeard]

There sure is Steve, I think it relates to a percentage of your assets and turnover - called gearing but I don't know what is considered acceptable.

 

Most big business is almost entirely financed hence why we have such major economic catastrophes now. The main trouble if lack of physical assets of any value.

[Rob D]

It's a good question and I look forward to seeing the answer as I have no idea!

 

 

I would say that acceptable debt would be linked to profit rather than turnover though.

[Billy68]

hi steve

i prefer no debt as when works quiet i dont have lots of people shouting for money. however in genral i would say aim for no more than the equivalent of 30 day turnover . the only exeception being hp where the the second hand sale price of your assets should always be greater than what you still owe ,the same applies to a business bank loan for equipment .

[Big J]

Presumably that debt includes all ongoing leases (vehicles etc), not just loans.

 

In my case my outstanding debt not including lease is 15% of turnover, but the truck lease is worth about 70% of turnover by itself. In relation to assets, my assets are about 300% of loan related debt, and about 50% if including truck lease, but not counting the truck as an asset.

 

I would be very interested to hear any proper figures.

 

Jonathan

[Tom D]

I don't know the answer, but I'd be wary of applying big business ratios to a small firm as they wouldn't necessarily work. For example a big business may consider itself to be doing well if its profits are five percent ot turnover, whereas that wouldn't be good for a one man band. 5% of 20,000,000 is ok for the shareholders, 5% of 80,000 is only 4k, not enough to live on.

 

I'd be interested to know what the general rule of debt/assets/turnover is though.

 

I suspect that what you really need to know is debt to gross profit ratio since that is where any debt interest and repayments will come from.

[Peter]

My bank will only lend 10% of turnover to small businesses.

 

However I can get a unsecured personal loan for many times that amount no questions asked.

[likeitorlumpit]

If I was lending to a business i'd take a number of factors into account

-level of profitability - how much profit you are making before debt servicing costs and whether this level is enough to service the debt- that is profit after you have taken a wage(have a realistic figure in mind say £30k p.a.) and paid all other bills

-how illness would affect liquidity/profitability of the business- one man bands often at the mercy of this

-what are the firms assets and would their sale cover the debt

-eggs in one basket- how much of the firms turnover and profit come from one or two major contracts and whether these are 'safe' contracts

-adaptability- whether the firm can adapt it's services in the event of a downturn in a particular market

- how young the business is- ie what sort of track record has it got and has the owner got a good track record in business and a good credit report

- history of success in that business sector

In short- no simple answer and two years ago there was a different answer- we all know what happened then:thumbdown:

[Quickthorn]

I don't know the answer, but I'd be wary of applying big business ratios to a small firm as they wouldn't necessarily work.

 

This is a very good point. It's not always a great idea to scale down rules of thumb that apply to big business.

 

Having said that, here's a rule of thumb

 

I use Quickbooks for my accounts, and they have a few decision tools, one of them being something that will calculate debt to equity ratio (ratio of what's on finance to what's actually owned by the proprietor). In the notes that come with it, they say that a debt:equity ratio of 2:1 is often considered reasonable (but cover themselves by saying that it varies between industries, consult your accountant etc.)

 

I'm sure lenders now take a long and hard look at anyone before handing out a loan; they're looking more to make sure that they can get their money back in the event of a default more than anything. If it's for a machine or something, they might come out to inspect what you're planning to buy, just to make sure there'll be enough residual value in it to cover the loan throughout its term. Finance companies prefer it if you have a lot of assets already, as that's all stuff they can claim on if things go bad. Strange as it seems, being a limited liability company in some circumstances can go against you if you are looking for finance: if you're not limited, they can go for everything you own.

[easy-lift guy]

I agree with Quickthorn, and I also use Quickbooks. A good accountant will also be able to answer those other questions you may have based on your business situation.