Words to lend by: “Cash Flow is the Primary Source of Repayment.” When I was new to lending, a wise, old experienced lender drilled that into me. So went my introduction to “primary cash flow.” About Global Cash Flow: Now that I’m older, experienced and —at least somewhat wiser—I’ll take it from here:
What it is. Global Cash Flow takes into consideration primary cash flow (borrower’s cash flow), the cash flow of affiliates, and the cash flow of the principals. The formula:
Primary Cash Flow + Personal Cash Flow + Affiliate Cash flow = Global Cash Flow.
Now, how will you use global cash flow?
When and How to Use it. And Not. When not? Don’t use global cash flow as a substitute for primary cash flow. Global cash flow isn’t necessarily a source of repayment of a loan. Why not? One reason: The affiliates may or may not be guarantors of the loan. If they’re not, there’s no reason to think that their cash flow could be used to repay your loan.
Look at it this way: Let’s say your borrower owns two businesses and is the primary owner of the first. The other business is an affiliate that did not guarantee the loan. Year after year your borrower is losing money on the first business. Meanwhile, the affiliate company is rolling in dough. Why would your borrower take money from the profitable company to keep the unprofitable company open? Throwing good money after bad is never a good idea.
And how often have you heard this one? “Primary cash flow is poor. But wow! Look at the great global cash flow!” Don’t be fooled. Unless the entities comprising global cash flow have guaranteed the loan, global cash flow doesn’t mean much.
‘Catch 22’ Analysis Required? So if global cash flow isn’t a reliable source of repayment, why bother with it? Simple. SBA requires you to do an analysis of global cash flow. And they’re not just making busy work* The point: Global cash flow measures whether the borrower, its affiliates and its principals are generating enough cash to cover all combined obligations. If the primary cash flow is good, but the global cash flow is poor, you run the risk of the business owner draining money from your borrower to cover personal obligations or obligations of the owner’s other companies.
Yes, I know we said that the principal cannot be relied on to take cash flow from an affiliate to prop up the cash flow of the borrower. It isn’t reasonable or prudent. But some borrowers might just do that: take the cash flow of the borrowing business to prop up personal cash flow or that of a failing affiliate. Sometimes borrowers just are not prudent.
What’s the Goal of Your Cash Flow Analysis? While positive global cash flow isn’t a reliable source of repayment of your loan, negative cash flow can put your loan at risk. That’s why the goal of your global cash flow analysis is to show a minimum global cash flow of 1:1, meaning there is enough cash flow all around to cover everyone’s debt service and the principal’s living expenses.
Lesson Learned. Negative global cash hurts debt repayment. Good global cash flow doesn’t necessarily help.
Associate CDC/504 Programs
* Try as you might, you won’t find a requirement in the SOP to do a global cash flow analysis for 504 underwriting. Are you off the hook? Nope: 13 CFR §120.150 specifies SBA’s lending criteria for all SBA loans. And there you’ll find that SBA will consider—and by extension so will you: (i) The effect any affiliates…may have on the ultimate repayment ability of the applicant”. Doing a cash flow analysis is the only way to show that you considered what the regulation requires.