Articles

How do SBA lenders calculate global cash flow and global DSCR?

The lender underwrites the guarantor's household as well as the business, and the house and the car go into the denominator.

Julian R. Sterling · from Buying a Small Business

Global cash flow adds the guarantor's household to the business: business cash flow plus the owner's salary and other household income, less personal taxes and living expenses, divided by the SBA loan payments plus the household's personal debt payments. On an illustrative acquisition with $435,000 of business cash flow against $323,844 of SBA debt service, the business alone covers 1.34x; add a $36,000 mortgage, a car and a student loan, and global DSCR falls to 1.21x, below the 1.25x many lenders set in credit policy.

Worked in full in Buying a Small Business by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →

SBA 7(a) lenders take personal guarantees from every owner of 20 per cent or more, so they underwrite the guarantor as well as the business. The business-level DSCR answers whether the company can pay the loan. Global DSCR answers whether the borrower's whole economic unit, business and household, can pay all of its debts at once. Buyers who have only run the first number are regularly surprised by the second.

The assumptions

Illustrative acquisition, annual figures in dollars. Rates and costs are illustrative, not quotes.

Input	Value
Business EBITDA, after paying the buyer a $120,000 salary	460,000
Maintenance capital expenditure	25,000
SBA loan, 10 years, fixed for illustration at 10.5%	2,000,000
Spouse's wages	65,000
Household income taxes, including tax on the business's pass-through profit	95,000
Living expenses	72,000
Home mortgage payments	36,000
Car loan payments	9,600
Student loan payments	4,800

The calculation, step by step

The household adds $18,000 of cash but $50,400 of debt payments. That is the whole story of the gap between 1.34x and 1.21x: the business is unchanged, but the denominator now carries the house and the car.

The owner's salary is counted once. It is an expense of the business, so EBITDA is measured after it, and it reappears as household income. Lenders differ in presentation, some removing the salary from both sides, but the arithmetic must land in the same place.

The result: what closes the gap

At 1.25x, global cash flow must reach 1.25 × 374,244 = 467,805, so the deal is 14,805 short. Three levers move it:

• Living expenses. Lenders often use a standard figure or the borrower's personal financial statement. At $57,195 a year instead of $72,000, global DSCR is exactly 1.25x.
• Personal debt. Paying off the car loan removes $9,600 of debt service and lifts global DSCR to 1.24x, close but not enough on its own, and the cash used to pay it off is cash not available for the equity injection.
• The loan. With household figures unchanged, 1.25x supports $312,000 of SBA debt service, a loan of $1,926,854: $73,146 less, which means a lower price, more equity, or a seller note whose payments are on standby, since a seller note being paid adds to debt service. How the business side alone sets the price ceiling is in what purchase price a 1.25x DSCR supports.

What if: household income and spending

Global DSCR by living expenses and spouse's income. Household taxes fall by $15,000 without the spouse's wages.

Spouse's wages	Living 50,000	Living 60,000	Living 72,000	Living 85,000
65,000	1.27x	1.24x	1.21x	1.18x
None	1.14x	1.11x	1.08x	1.04x

The spouse's $50,000 of after-tax wages is worth about 0.13x of global coverage. A spouse planning to leave a job to work in the newly bought business should be modelled in the second row, because that is the household the loan will actually depend on. The same logic sets how much the buyer can take out of the business, worked from the other direction in how much you can pay yourself after an SBA acquisition.

The common mistakes

• Double counting the salary. Adding the $120,000 back to business cash flow and also counting it as household income produces 573,000 of global cash flow and a comfortable 1.53x that no credit officer will accept.
• Forgetting the tax on pass-through profit. In an LLC or S corporation, the business's taxable profit lands on the owner's personal return. A global analysis that taxes only the salary leaves a large personal tax bill out of the household column.
• Leaving out minimum payments. Credit cards, a home equity line and any guarantee of another business's debt appear on the credit report and in the lender's debt service.
• Using the buyer's current salary. Global cash flow is run on the post-closing household, with the salary the business will pay, not the job the buyer is leaving.

Takeaway

Run the business DSCR, then add the household: income in, taxes and living costs out, personal debt payments into the denominator. Here a business covering its loan 1.34x becomes a borrower covering all its debts 1.21x, and lower living costs, less personal debt or a $73,146 smaller loan closes the gap. The book's acquisition models carry the full sources and uses and ten years of operations; they are on the free workbook page for this case, and the small business acquisition model takes your own figures.

Questions readers ask

What global DSCR do SBA lenders require?

It is set by each lender's credit policy and many use 1.25x for global coverage, so check the term sheet. In the illustrative deal, a business DSCR of 1.34x becomes a global DSCR of 1.21x once $50,400 of personal debt payments are added, 14,805 of cash flow short of 1.25x.

Is the owner's salary included in global cash flow?

Yes, once. The business pays it, so business cash flow is measured after the $120,000 salary, and it reappears as household income before personal taxes and living expenses. Adding it back to the business as well inflates global cash flow to 573,000 and global DSCR to 1.53x, a figure no lender will accept.

Does a spouse's income count in SBA global cash flow?

Lenders commonly include a spouse's wages in household income when the household's debts and expenses are counted too. In the illustrative case the spouse's 50,000 of after-tax wages adds about 0.13x: global DSCR is 1.21x with them and 1.08x without, at $72,000 of living expenses.

Also on this site

• What purchase price does a 1.25x DSCR support on an SBA loan?EBITDA over 1.25, divided by debt service per dollar of price: 500,000 of EBITDA supports 2,655,581, or 5.31x. The cash test says 2,071,354.
• How much can you pay yourself after an SBA business acquisition?SDE less capex less 1.25 times debt service: 600,000 of SDE and a 242,883 SBA payment cap the owner's salary at 266,396, and a 10.1% dip in SDE breaks it.
• Are accounts receivable included when you buy a small business?Usually not, so the buyer must fund a full collection cycle: 174,658, or 9.7% of a 1,800,000 price at 45 days' DSO. If bought, pay collectible value, not face.
• How much does customer concentration reduce a small business's value?Price it on EBITDA with and without the customer: 30 per cent of revenue is 67.5 per cent of profit, and a 2,100,000 asking price becomes 1,785,000.
• How far can revenue fall before you can't pay your SBA loan?Divide the cash cushion by the contribution margin. A 1.55x DSCR on a $2.4m business survives a revenue fall of only 14.1%, and 7.7% to stay above 1.25x.
• How much cash do you need to buy a business with an SBA loan?The 10 per cent injection is on total project cost, then add diligence and a reserve: 310,594 on a 1,800,000 business, 17.3 per cent of the price.

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