EBITDA to Assets ratio: Tips for improvement

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After looking at tips to improve the net income to sales ratio, an overview of how to improve the EBITDA to Assets ratio is included in this post. The EBITDA to Assets ratio is one of the five financial variables, used by the Business Credit Report by Sageworks, that were identified as both the best predictors of default and representative of a company’s financial characteristics.

By Mary Ellen Biery, Research Specialist, Sageworks

EBITDA, or earnings before interest, taxes, depreciation and amortization, is often used to measure a firm’s ability to generate income. It is widely used as a proxy for pre-interest, pre-tax cash flow from operations. Comparing EBITDA to a company’s assets helps show profitability — how much income, or cash, a company can generate from its equipment, property and other assets, according to Lawrence Litowitz, a partner at strategic advisory firm The SCA Group LLC.

One way to improve this ratio is to focus on the numerator – to increase your EBITDA. Boosting EBITDA typically involves either raising revenues (without a commensurate increase in expenses) or cutting expenses.

Raising revenues can involve better planning, such as getting ready early for holiday sales, or it can involve improving business offerings by gaining insight from customers through market research or other methods of customer input. “Reducing friction points — learning curves, waiting periods, paperwork, delivery charges, and so on — in the customer experience will encourage them to use and recommend your business more often,” according to Sageworks analyst Libby Bierman. However it’s done, increasing sales volume allows for better coverage of fixed costs, which can lead to higher profitability.

Cutting expenses is often the focus of efforts to boost EBITDA, because those savings may fall straight to the bottom line. One way to cut expenses involves seeking out multiple qualified vendors to get the best prices through competition while maintaining quality. “If the business is not continually reviewing and updating its existing and potential vendor lists, it may overspend on supplies or inventory,” said Michael McNeilly, director of advisory services at Sageworks.

The Better Business Bureau offers several suggestions for businesses to cut back on spending, which the agency notes has the added benefit of freeing up more cash. Ideas include increasing your insurance deductible (although it might be wise to add some of the premium savings to an emergency fund) and reviewing service plans for basic business services such as telephones, Internet and equipment leasing.

Sometimes it helps to benchmark the financial performance of the company to that of peers to guide efforts to improve EBITDA to Assets. Doing so can help identify areas where a business lags – in net profit margin, for example, or inventory turnover.

Getting Business Credit Whitepaper


To learn more about how to improve on the other metrics that Sageworks identified as representative of a company’s financial characteristics and the best predictors of default, download the whitepaper: “Getting Business Credit: Improving the Financial Metrics that Matter.”

How to improve your Net Income to Sales ratio

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The Business Credit Report by Sageworks uses five financial variables that were identified as both the best predictors of default and representative of a company’s financial characteristics. After looking at tips to improve debt service coverage ratio, an overview of how to improve your net income to sales ratio is included below.

By Mary Ellen Biery, Research Specialist, Sageworks

The Net Income to Sales ratio is a fundamental measure of how profitable your business is. There are three possible fixes for low profitability, according to the book, Financial Intelligence for Entrepreneurs. One option – cutting operating expenses – can be more of a short-term fix. But authors Karen Berman and Joe Knight caution that cost cuts (such as layoffs) can sometimes backfire, or they may only serve to postpone “the day of reckoning” that exposes deeper strategic issues at the company.

Two of the fixes – increasing profitable sales and lowering production costs – take time to identify and implement.  Lowering production costs often involves finding ways to get raw materials or key services more cheaply or to use less of them. Or it can mean identifying new, more efficient methods of producing a good or providing a service.

To increase profitable sales, “You have to find new markets or new prospects, work through the sales cycle, and so on,” according to Berman and Knight. Lowering the cost of goods sold typically involves studying the production process, finding inefficiencies and implementing changes, they say.

Converting browsers into buyers by scheduling operational duties (such as receiving) to take place at a time customers aren’t likely to need assistance is one way to optimize sales. Another low-cost option for boosting sales:  Work on getting free publicity when possible by contributing to a newspaper or magazine article on a subject associated with the business. Often, this can build credibility and name recognition, which can potentially attract additional customers. Or seek insight from customers or outsiders to help grow a company’s sales. Focus groups or even a suggestion box might generate ideas that are simple to implement, or they might prompt a longer-term change in strategy to optimize sales.

Getting Business Credit Whitepaper


To learn more about how to improve on the other metrics that Sageworks identified as representative of a company’s financial characteristics and the best predictors of default, download the whitepaper: “Getting Business Credit: Improving the Financial Metrics that Matter.”

Tips to improve Debt Service Coverage ratio

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Studying historical default behavior of private-company business loans and the financial characteristics of both the businesses and their owners prior to default, Sageworks developed a predictive, statistical model to help businesses identify the credit risk of a private company. The Business Credit Report by Sageworks uses five financial variables that were identified as both representative of a company’s financial characteristics and the best predictors of default. One of these variables, Debt Service Coverage Ratio, is described below and tips to improve this metric are also included.

By Mary Ellen Biery, Research Specialist, Sageworks

One of the most basic measures of a company’s ability to meet credit obligations is the Debt Service Coverage ratio, which shows a firm’s ongoing ability to keep in control both debt and interest. The Debt Service Coverage Ratio, defined as EBITDA divided by a firm’s current portion of long-term debt and interest expense, is an extremely important metric for predicting default. More than half of the banks and asset-based lenders in the Pepperdine Capital Markets survey said this statistic was important or very important in their lending decisions.

Given its role in lending decisions, an improvement to the Debt Service Coverage Ratio can be beneficial, and it can be accomplished in a variety of ways. Cutting expenses may boost the firm’s EBITDA, even if debt and interest payments stay the same.

But a business can also improve this ratio by focusing on debt and interest expense.  Short of extending the term of a loan or refinancing to lower interest expense, one effective way of tackling the debt/interest side of this ratio is to cut expenses and apply the savings toward paying principal on the debt.

“Sell things that can boost cash, such as unproductive assets,” advises Sageworks analyst Libby Bierman. “These are assets that are not contributing sufficiently to the generation of income and cash flow, possibly because they are under-utilized. Use the proceeds of the sale to pay off principal on your debt.”

Similarly, small decreases in overhead can typically yield large cash savings over time, and the impact of those savings is compounded when they are used to repay principal, lowering not only debt payments but also interest expense.  Don’t overlook things such as fraud control when trying to trim selling, general and administrative expenses. Fraud can pad expenses and inflate a company’s cost of sales.

Getting Business Credit Whitepaper


To learn more about how to improve on the other metrics that Sageworks identified as representative of a company’s financial characteristics and the best predictors of default, download the whitepaper: “Getting Business Credit: Improving the Financial Metrics that Matter.”

How to prepare for business loan applications

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We recently looked at two tips to prepare for business loans, but there are a couple of additional steps company executives can take to avoid confusion and develop a more positive experience throughout the loan application process. Evaluating financial metrics that impact repayment prospects and responding to both potential and real roadblocks are critical, especially before approaching a financial institution for a loan.

By Mary Ellen Biery, Research Specialist, Sageworks

Evaluate Financial Metrics Impacting Repayment Prospects

Banks will each have their own requirements when it comes to loan applications and what is required. In general, however, it’s a good idea to have multiple years of tax returns, financial statements and information on your receivables, payables and current debt payments when you approach a potential lender. Some will require a business plan that projects a few years out. This is something that can be developed using online tools, such as this one from the SBA, or, for deeper analysis, products like Sageworks Counselor. An experienced advisor can also help you navigate that process.

Aside from the paperwork that will be required, another key part of preparing to apply for a business loan involves evaluating the key financial metrics that lenders will use to assess your ability to repay the loan. It’s not only important to know which metrics are significant to a particular lender. It’s also important to evaluate where your company stands on the financial metrics that best predict default – the exact scenario a financial institution wants to avoid.

Sageworks studied historical default behavior of private-company business loans and the financial characteristics of both the businesses and their owners prior to default. It did this using a standardized, representative sample to develop the statistical model that is the engine of the Business Credit Report by Sageworks. The five financial metrics that Sageworks has identified as the best predictors of default are: Debt Service Coverage Ratio, Net Income to Sales, Liabilities to Assets, EBITDA to Assets, and Cash to Assets.

Lenders will have their own standards for what constitutes a “good showing” on these or other metrics. However, it’s helpful to know where your company stands on these key metrics and how you compare to peers, if possible, in order to help lenders understand how they can get their money back. Read more about those metrics and why they are important here.

Respond to Roadblocks (Potential and Real)

As discussed, knowing how a business stands on key financial metrics that predict default is important when a company is considering seeking a bank loan. Sometimes the evaluation process itself will allow a company to address potential roadblocks to a business loan.

For example, a company owner might recognize the need to identify additional collateral for a loan – stocks, bonds or the owner’s house. Or a business owner may decide that the timing probably isn’t ideal to seek a business loan, says Wells Fargo Senior Vice President David Booth, who is a business banking manager and the Cary, N.C., market president. “If the person can kind of do their own homework, they may ask, ‘Does it make sense to ask for this?’“

The owner may decide to work on extending payables, or to offer a discount for faster payment on receivables in order to generate some additional cash flow that can make a credit request more attractive in a few months.

Checking credit history records ahead of time allows you to address any mistakes or respond to any negatives. But a major way to face potential roadblocks successfully is to take time over the years to talk with your bankers – to ask questions and learn all you can about them, their processes and changes in the lending environment.

Getting a Business Loan Whitepaper


Read about more tips that can help a business with applying for a loan in the whitepaper: “Top Tips for Getting a Business Loan.”