PAGE 65 / 87

Unit 3: Managing the Farm/Ranch Business for Long-Term Success

Debt Financing Criteria: The Five C’s

Most creditors evaluate what are commonly called the Five C’s – character, capacity, capital, conditions and collateral – when making financing decisions. Click on each of the following for a fuller description:

• Character

• Move
• Close
Character: Who are you (farm resume) and will the bank trust you with its money? What is your reputation in the industry and community? Character immediately comes into play if there is a business crisis. Investors want to put their money behind people who can handle a crisis well, and they ask for impeccable credentials and references. The way you treat employees and customers, the way you take on responsibility, your timeliness in fulfilling obligations — these are all evaluated by lenders as they judge character.

• Capacity

• Move
• Close
Capacity: How capable are you of running a farm, ranch, or value-added business? Do you have the skills (either yourself or other members of your farm team) to accomplish your goals and objectives? And what is your borrowing history and track record of repayment (credit report)? In other words, how likely are you to repay the bank’s money? There are numerous financial benchmarks, such as debt and liquidity ratios, that lenders evaluate.

• Capital

• Move
• Close
Capital: How much equity are you contributing? The less money you invest personally, the more the bank considers you a risk. Lenders want business owners themselves to also make a financial commitment and put themselves at risk for the business. Lenders evaluate both the business's financial statements and the farmer’s personal credit. If the business has not yet made a profit, the lender might also look at customer commitments and payment history.

• Conditions

• Move
• Close
Conditions: What are the current economic conditions within the industry and how does the business fit in? Are there any economic or political hot potatoes that could negatively impact the business’s growth? Remember the SWOT analysis from Unit 1? If the business is sensitive to economic downturns, for example, the bank wants to see that its owners are carefully managing production and expenses.

• Collateral

• Move
• Close
Collateral: While cash flow is usually the primary way farmers repay loans, bankers also look at what they call the secondary source of repayment: collateral or hard assets, such as real estate and equipment. Accounts receivable and inventory also can be pledged as collateral. No matter where a business is in its life cycle, owners are almost always required to pledge either business or personal collateral.

Lenders don’t equally weigh the Five C's. They are cautious and one weak area they consider particularly important could offset all the other strengths of the business. It’s been said that lenders look most closely at the business owner: his or her character, confidence and ability to manage.

Sources: The Small Business Money Guide by Terri Lonier and Lisa Aldisert; and Starting An Ag-Business: A Pre-Planning Guide by Steve Richards, Department of Applied Economics and Management, College of Agriculture and Life Sciences, Cornell University, June 2004.