Borrowing Responsibly

K. V. Srinivasan

K. V. Srinivasan

Chief Executive Officer
Reliance Commercial Finance

Debt forms a substantial part of any business’s fund base. Much of the profitability and sustenance of a business depends on how debt is acquired, serviced and repaid. Not just small businesses, but even large groups fail many times to manage their debt properly, resulting in business instability. The mantra of “Borrow Responsibly” connotes the do’s and don’ts with regard to debt.

First, matching of nature of debt with its usage is critical. If the usage is for a long term purpose - say, putting up a new factory - the funding must be through a 5-7 year debt, such that cash flows from the new factory can help pay off the debt. If for instance, the business is cyclical, working capital needs should be met through a cash credit facility rather than through a term loan, since cash credit is highly flexible.

Second, end use of funds must be only for the stated purpose - any diversion into unproductive/speculative use (say, real estate or stock market speculation) or for personal purposes could lead to disastrous results and may even violate the loan agreement leading to possible criminal action. Several businessmen have defaulted due to this in spite of their core businesses doing well. Another avoidable tendency is to carry out unrelated diversification (e.g., a chemical manufacturer diversifying into engineering goods) since the ability of a business to do totally divergent things is doubtful.

Third, over-leveraging i.e., taking more loans than what one can service - a large number of corporates are today facing this problem, resulting in total business disruption and loss of reputation. The extent of loan must be limited only to the amount that can be serviced through regular business cash flows. If a business is seasonal/cyclical the business owner must be even more conservative in taking loans, since loan servicing may be very difficult in a downtrend or off season.

Fourth, complete transparency in dealings with the lender is of utmost importance, since it helps to build long term relationship and trust. Maintaining adequate books of account and highlighting business risks to the bank/NBFC helps them to plan for any business bail-out at the appropriate time. It also ensures that road blocks to quick growth of the borrower’s business are mitigated.

Debt is a double edged sword - a business tool if used diligently and a threat if used unwisely. Borrow responsibly and profit from it!