Credit Analysis 101: Inside a Banker's Brain

"There's an old saying about the Five Cs of credit: capacity (to pay back), collateral, conditions, capital, and character. We look at tax returns, collateral, and debt-service coverage for small business loans for equipment, working capital, or commercial real estate purchases. But we also look at the borrower as a whole: How's their personal credit, personal debt, the relationship—do we have experience lending to a given individual? How liquid are they? What's the company's longevity?"

Jordan Herzlich. Assistant vice-president, Teachers Federal Credit Union, Farmingdale, N.Y.

"You're looking first at the management: Is it capable, will there be any major changes? Have they survived past credit crunches? Over three years of financials, how is the business capitalized, how leveraged is it, what cash flow does it generate?"

Joseph Harpster, Chief credit officer, Herald National Bank, New York

"We look at EBITDA [earnings before interest, taxes, depreciation, and amortization] to see the company's cash flow. In the heyday of 2007, small companies were valued at around eight times EBITDA: If a company was throwing off $10 million of EBITDA, we'd say it was worth $80 million, and debt could be as high as six times EBITDA, or $60 million, and $20 million could be equity. That's a pretty hefty amount of debt! Now companies are valued in the range of four to five times EBITDA, with the debt and equity being about equal."

Bill Lenhart, National director, BDO Consulting, New York

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