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Banjo digs into the details of serviceability of business loans, so you can make better applications for your clients.
Sourcing funding to help your clients’ businesses grow is one of the most important functions that brokers perform, and a critical part is satisfying lenders that your clients can meet their loan commitments without putting their businesses at risk.
For many loan applications, serviceability – and how it impacts the borrower’s cashflow – is a determining factor in getting applications across the line. David Phan, Senior Credit Executive at Banjo Loans, believes that understanding the serviceability position of your clients often goes beyond numbers.
Serviceability from a lender’s perspective
Put simply, serviceability is the borrower’s ability to maintain repayments, as assessed by their cashflow. This is generally determined by looking at their income after considering direct costs, operating expenses and their current debt level.
“For us, serviceability is important because it protects both the client and ourselves,” David Phan says. “Obviously, a client will want to take on debt to take advantage of opportunities for growth that they might otherwise miss out on, but we have to do that in a sustainable manner.”
“Our interest is making sure that the repayments are made on time, so it’s important that serviceability is calculated in a responsible manner.”
Calculating a borrower’s serviceability
Like many lenders, Banjo uses a Debt Service Coverage Ratio (DSCR) matrix. As David points out, though, DSCR approval benchmarks differ between lenders.
DSCR calculations aside, he believes that a broker shouldn’t be afraid to look at where their client’s business is heading, as much as where it’s been — particularly in the aftermath of COVID — when calculating their loan serviceability.
“Historical financial performance has always been leaned on the most, but we understand that not every business we’re going to be seeing has been perfect.”
“What we see varies by industry and what the business does. But, if a business has gone through a tough couple of years with COVID, what I'll be looking for is to understand the main drivers behind that financial performance in those couple of years; what steps have been taken by the client to turn things around, and ultimately, whether they were able to overcome those challenges.”
“If we're okay with that, we’d rely on a forward-looking forecast, as long as it makes sense and as long as it can be verified with supporting documentation [like] contracts, and whether we're comfortable that it's reflective of their new normal.”
Tax obligations are also part of the serviceability equation. With the ATO cracking down on tax debts accrued during COVID, many lenders, Banjo included, are looking more closely at an applicant’s tax position. have tightened their criteria when it comes to an applicant’s tax position.
“A lot of businesses have tax debts that have been building up since 2019, and it looks like the ATO is starting the collection processes,’ David Phan warns. “There's been an increase in the number of Director Penalty Notices being issued and we’re seeing that the ATO are less accommodating when negotiating payment plans. Essentially, they can pull the rug from under a business with little notice.”
“Brokers have to make sure that all their client’s tax lodgements are up-to-date,” he continues, “that GST, PAYG and super payments are made on time, and that, if there are outstanding arrears with the tax office, that they've negotiated a payment plan.”
“For us as the lender, we've got to be comfortable in knowing the ATO is working with them to find a longer term solution to have their debt paid. Knowing the tax position will definitely streamline an application.”
The broker’s role in client serviceability
David Phan’s advice for brokers is plain and simple: it is vital to know your client.
“I find brokers that understand the customer — their past, present and future – paint the picture better for us. As a lender, that gives us some comfort. The more transparency we get with the customer goes a long way.”
Other factors that Banjo looks for are well-diversified income streams (i.e. less dependency on one or two major contracts because, if one falls over, the business will struggle to replace that revenue) and a level of proven agility to meet market fluctuations.
As David says, “Being able to meet current commitments on time goes without saying. Quick access to working capital is important too.”
“We also look at the borrower’s savings position to handle unexpected expenses that come along, like a transport company being able to absorb the cost of a prime mover being off the road if it needed an engine rebuild. Just having that foresight – to be ready for that – and their ability to handle those kinds of challenges, such as global supply chain issues that have made acquiring equipment quite difficult.”
Ask David Phan about the single most important thing a broker should know about serviceability, and he concludes: cash is king.
“Cash is what you need to pay your loan repayments. Debt can be good, but there's also a fine line in taking on too much debt. In a healthy business, you would see some kind of debt, but we don't want borrowers to be over-leveraged and put themselves in distress.”
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