How Do Business Lenders Decide How Much to Lend?
Updated: Aug 12
When you apply for a business loan, you will usually tell the lender how much you would like to borrow. That doesn't necessarily mean the lender will offer that amount.
A business might apply for £100,000 and receive an offer for £50,000. Another company requesting £50,000 might be considered capable of supporting the full amount.
So how does a lender arrive at the number?
Although every lender has its own underwriting criteria, the decision will generally come down to two questions:
and
Can the business comfortably afford the repayments?
To answer those questions, lenders typically consider turnover, cash flow, existing borrowing, profitability, credit history and recent bank conduct.
Step 1: How large is the business?
Turnover is often one of the first numbers a lender considers.
It provides an indication of the scale of the business and can be used to establish whether the amount requested is reasonable relative to its revenue.
For example, a £100,000 loan request from a company generating £5 million of annual revenue looks very different from the same request from a company turning over £250,000.
For short-term lending, some lenders may initially think about maximum exposure in terms of months of revenue. A broad rule of thumb might be lending of up to around one or two months' average turnover, although actual lending criteria vary considerably.
Turnover, however, is only a starting point.
A company can generate substantial revenue without generating enough cash to comfortably repay additional borrowing.
Step 2: What does the recent cash flow look like?
This is where bank statements and open banking information become particularly useful.
Filed accounts might tell a lender what happened during the company's last financial year. Bank transactions provide a much more current picture.
A lender may look at:
average monthly credits;
average and lowest cash balances;
whether revenue is stable, growing or declining;
overdraft utilisation;
returned direct debits or other unpaid items;
payments to existing lenders;
payments to HMRC; and
unusual or significant transactions.
The lender is trying to understand the normal cash-flow behaviour of the business.
A healthy bank balance on one particular day is less informative than how the account has operated over the previous several months.
Step 3: What debt does the business already have?
Existing borrowing can significantly affect the size of a new loan.
Suppose two businesses each generate £100,000 of monthly revenue.
The first has very little external borrowing.
The second is already making £15,000 of loan repayments every month.
Even if their turnover is identical, their capacity to service another loan is unlikely to be the same.
Lenders may therefore look at existing:
business loans;
overdrafts;
asset finance;
invoice finance;
merchant cash advances; and
other regular finance commitments.
The important issue isn't simply the outstanding debt balance. The amount of cash leaving the business to service that debt is often just as important.
Step 4: Can the business afford the new repayment?
Once the lender has established that the requested loan is broadly reasonable for a business of that size, it needs to consider affordability.
This is particularly important with short-term borrowing.
A £50,000 loan repaid over three years creates a very different cash-flow requirement from £50,000 repaid over six months.
The lender will therefore consider the proposed:
Loan amount + repayment term + cost of borrowing = required repayment
and assess that repayment against the company's available cash flow.
This is one reason why the maximum loan amount can't be determined from turnover alone.
Step 5: What do the accounts show?
Company accounts provide another part of the picture.
A lender may consider:
turnover;
gross and operating profit;
net profit;
cash;
debtors and creditors;
net assets;
existing debt; and
changes from previous years.
The direction of travel can be particularly important.
For example, declining turnover combined with falling cash balances and increasing debt may be more concerning than one weak number viewed in isolation.
Equally, historical accounts may show a loss while more recent information demonstrates that trading has subsequently improved.
This is why lenders often combine accounts with more current information.
Step 6: How has the business handled its finances?
Recent bank conduct can provide useful evidence about financial resilience.
Occasional cash-flow pressure isn't necessarily unusual for an SME. What matters is the extent and frequency of that pressure.
Repeated returned payments, persistent excesses over an agreed overdraft or an increasing reliance on short-term borrowing may indicate that the business has limited capacity to absorb another repayment.
Conversely, consistent positive balances, orderly servicing of existing borrowing and improving liquidity can support a stronger assessment.
The lender is effectively asking:
What happens when this business comes under financial pressure?
Step 7: What does the credit history show?
A lender may conduct credit searches on the company and, depending on the type of loan, its directors or guarantors.
This can identify matters such as:
County Court Judgments (CCJs);
previous defaults;
insolvency events;
existing credit commitments; and
other adverse credit information.
Adverse credit doesn't necessarily result in an automatic decline.
A lender may distinguish between a small historic issue that has subsequently been resolved and recent adverse credit suggesting continuing financial difficulty.
Step 8: Why does the business want the money?
The purpose of the loan matters.
Borrowing £50,000 to purchase stock against confirmed demand is different from borrowing £50,000 because the business is repeatedly running out of cash.
Likewise, funding new equipment, expansion, recruitment or a large contract can have a clear commercial rationale.
A lender will often want to understand what the borrowing is expected to achieve and whether the amount requested makes sense for that purpose.
Step 9: Is there security or a personal guarantee?
The structure of the proposed loan can also affect the amount a lender is prepared to advance.
For secured lending, the lender will consider the nature and value of the available security.
For unsecured SME lending, lenders may require personal guarantees from directors or shareholders.
Security or guarantees can provide additional protection to a lender, but they don't eliminate the need to establish that the underlying business can afford the borrowing.
The primary expectation should still be that the loan is repaid from the company's cash flow.
Why might a lender offer less than I requested?
Receiving a lower offer doesn't necessarily mean that the lender thinks the business is bad credit.
The lender may simply conclude that the requested amount would result in too much debt or too high a repayment relative to the company's current financial position.
For example, a business requesting £75,000 might be considered capable of comfortably supporting £50,000.
Reducing the facility can sometimes turn an application that would otherwise be declined into one that the lender is prepared to support.
Is business lending just a credit score?
Not always.
Some lenders make extensive use of automated scoring and predefined lending limits.
Others combine credit data with manual underwriting.
For SMEs in particular, the numbers don't always tell the complete story. Recent growth, a one-off loss, a new contract or an unusual transaction can require explanation.
This is why two lenders can review the same company and reach different conclusions about both whether to lend and how much to lend.
How can I improve my chances of getting the amount I need?
Providing complete and accurate information makes it easier for a lender to understand the application.
You should be prepared to explain:
how much you need;
what the money will be used for;
your existing borrowing;
any significant recent changes in trading;
any adverse credit issues; and
how the business expects to service the repayments.
Most importantly, request an amount that makes sense relative to the purpose of the loan and the financial capacity of the business.
A credible £50,000 request is generally more straightforward to assess than an unexplained request for £150,000.
Applying for business finance with Adelpha Capital
Adelpha Capital provides business finance to established UK SMEs.
Rather than looking at a single number in isolation, we consider the wider financial position of the business, including turnover, cash flow, recent bank conduct, trading history and existing borrowing.
If you're looking for business finance, you can apply online or contact the Adelpha Capital team to discuss your requirements.