How the banks view your financial position for lending

As we move into planning for the next season it’s important to know what the banks look at when assessing a customer’s lending ability and what might be possible for your next step.

Some of the KPI figures may vary from bank to bank and depend on your personal situation. However, is intended as a guide – if you are close to the threshold, you may be able to get there with a good budget and cost control for example.

Three years of accounts needed

• The bank will likely request 3 years of financial statements to see how viable and sustainable the business has been over a period of time

• The first check is debt levels per kg MS to check whether it’s worth proceeding or not. The banks generally work on 60% debt after settlement so will assess whether you will meet this or not. Indicative debt levels of $18/kg MS are low while debt levels of $30/kg MS are high (for land ownership)

• For livestock owners, they will review the livestock based on what a standard year is. Also looking at production and are there any causes for concern? Are you building herd numbers? They will try to build a narrative around how the business is performing

• Livestock security values are loosely based around herd scheme values and will lend 60% of these values. For example, this year $2824 for MA cows, $2598 for R2 heifers and $1326 for R1 heifers

• They review historical stock trading performance, working on an average of 30-40c/kg MS. They will want to know reasons as to why if it’s higher or lower than this

• Trends in income and expenses will be assessed. No more than 50% of revenue is generated from off farm. Cash expenses are assessed as a percentage of income – 55-65% is comfortable therefore working on 35% to pay tax, capital, debt and drawings. They will compare the expenses on a $/kg MS basis compared to a standard farm

• For some banks there is a strong focus on EBITDA (earnings before interest, tax, depreciation and amortization) and interest cover. The minimum interest cover needed is 1.25x (ie. EBITDA must be at least 1.25 times higher than interest). Established businesses should be at least 1.3x. If you’re sitting at 0.9x that’s when regular monitoring and remediation strategies are implemented

• For other banks they focus on debt to EBITDA and a maximum of 10-12x. ie. if earning $100,000 your maximum debt is $1-1.2 mill.

  
  

It’s all about cash generation

• Banks are mainly concerned with cash generation, what you do with that cash and how responsible you are

• Drawings are assessed based on how many people it supports and trends over 3 years. If you cut drawings in response to a milk price drop then that’s good, however if they’re consistently high it’s not going to factor in your favour

• They do also consider non-cash factors, eg. if you are building herd numbers this is taken into account

• Serviceability is key as this is the ability to meet your interest and principal obligations. This is where they may consider a higher debt position (ie. 65% compared to 60%) if you have a good track record and budget and can prove the ability to service higher levels of debt

• You are expected to provide your own budgets and they will carry out sensitivity analysis (ie. running the budget at different levels of milk prices and interest rates)

• Currently most banks are assessing budgets at an $8.80/kg MS milk price and 7.25% interest rate. If you are outside the traditional spring calving model and can prove the winter milk premium received they will account for this into the budget

Qualitative factors

• It’s not all about money, they will also assess your character

• Do you strive for the Tiaki payments and incentives?

• Your ability to monitor the business and adapt (ie. to low milk prices, regulations)

• Do you take part in the Dairy Industry Awards and how prevalent are you in the industry

• Your ability to build relationships such as discussion groups, industry events

All banks have a risk profile (eg. 1 to 20) and the grade impacts the banks return and how much rope you have. Even if you are a while off the next step, these insights will give you the areas needing focus on so that when you are ready to make the jump you are well prepared and have built a strong foundation already.

This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.