The Basics of Financial Analysis for Commercial Brokers

When a lender asks for “financials”, what do they actually want? And once they have them, what exactly are they looking at to determine if a business is healthy or not?

In this article we’ll dive into what documents typically make up the financials for a business (and some of the less typical ones), and look at some basic concepts of financial statement analysis — with a focus on the things most relevant to lenders and brokers alike.

“Financials” is shorthand for Financial Accounts, typically made up of a Balance Sheet and a Profit and Loss (or Income) Statement. There are also other documents that may form part of the financials depending on the type of business you’re dealing with.

Mastering financial statement analysis is indispensable for a lender but can also be highly valuable for commercial brokers — helping to identify potential issues early and come pre-armed with answers to lender questions.

Three tiers of financial statements

As the saying goes, “In God we trust; all others must bring data.” Many lenders have adopted this mantra, and not all data is viewed as equally valuable.

Tier 1 — Management Accounts. Prepared for internal use. They may be high quality and more recent (monthly or on request), but they’re typically taken with a large pinch of salt. They may contain unresolved errors, miss critical information, and have little oversight on their preparation. If you’re relying on management accounts, augment them with quarterly or annual tax returns.

Tier 2 — Accountant Prepared. The basic level of reporting for most SMEs. Accounts compiled by external accountants are usually held as a good representation of the truth, particularly from a reputable firm. They still rely on data provided by the customer, but glaring errors or omissions are far less likely.

Tier 3 — Audited Accounts. The gold standard. The information has been verified against independent data sources and (assuming no audit qualification) the auditor is comfortable that the accounts represent a true and accurate picture. Auditors may also qualify their opinion or draw attention to particular matters of note.

Key takeaway: Know which tier of financials you’re working with. Accountant-prepared statements (Tier 2) are the minimum most lenders expect for SME lending. If you only have management accounts, supplement them with tax returns to add credibility.

The Balance Sheet

The balance sheet presents the assets and liabilities of the business, split into current and long-term, and in simple terms results in equity (assets minus liabilities).

Assets — what the company owns: tangible assets like property, equipment, and inventory, plus intangible assets like patents and goodwill.
Liabilities — what the company owes: loans, accounts payable, accrued expenses.
Equity — assets minus liabilities. Comprises share capital, retained earnings, and other comprehensive income.

Some key information from the balance sheet can be used to calculate common ratios that give insights into business health — we’ll look at these shortly. But at first glance, the key questions to ask are around solvency and liquidity.

Solvency refers to the ability of a business to meet its financial obligations in the long term. In simple terms, is the business owed more than it owes to others?

Liquidity refers to the ability to meet obligations in the short term — generally cash and liquid assets versus short-term debt.

Aged Debtors

On paper a business can appear liquid, but if a significant portion of current assets are debtors rather than cash, it’s worth reviewing an Aged Debtors report. This shows all debts owed to the company — who owes how much, and how long they’re taking to pay. Liquidity and solvency can often depend on just a few large debtors, so it pays to make sure customers are actually paying. This is particularly relevant for services businesses and construction.

Profit and Loss Statements (P&L)

The P&L sets out the revenue and expenses of the business for the period, resulting in either a profit or loss.

Revenue shows income from core activities (sale of products, services) as well as revenue from other sources. For some businesses it’s common to see “cost of sale” deducted from gross revenue, yielding a net revenue amount before operating expenses are deducted “below the line”.

Expenses show all costs incurred in the period — operating expenses, depreciation, and interest.

The resulting profit or loss might be shown in several ways:

EBIT (Earnings Before Interest and Tax) — net income before tax, with interest removed.
EBITDA (Earnings Before Interest, Tax, Depreciation and Amortisation) — similar to EBIT but with depreciation and amortisation also removed. Common for asset-heavy businesses.
NPBT (Net Profit Before Tax) — a more simplistic measure where interest and depreciation are included.
NPAT (Net Profit After Tax) — after everything is said and done, how much did the business make or lose?

All of the above provide significant insights. Is revenue stable or increasing? What does the business spend its money on? Is it profitable? Is it drowning in interest costs or showing a profit only through abnormal income?

Tip: When reviewing a P&L, always compare at least two years. A single year’s snapshot can be misleading — it’s the trends that tell the real story. Look for revenue stability, expense patterns, and whether profitability is sustainable or one-off.

The Cash Flow Statement

To really get your finger on the pulse, a cash flow statement can be exceptionally useful — although digital bank statement downloads now often provide a more detailed and up-to-the-minute picture of cash movement.

The cash flow statement shows cash coming in and out over time, usually broken down by month and grouped into three categories:

Operating Activities — cash from primary operations: receipts from customers, payments to suppliers.
Investing Activities — cash relating to acquisition and disposal of long-term assets (property, plant, equipment).
Financing Activities — cash movements relating to debt, equity, or dividends.

All of this helps a lender (or broker) understand a company’s cash-generating capabilities, liquidity position, and — most importantly — its ability to meet its financial obligations.

The Key Ratios

To wrap up, let’s look at some key ratios analysts use to assess business health. These quick calculations provide useful benchmarks, but as with everything, the devil is in the detail — make sure the ratios make sense for the type of business you’re dealing with.

Current Ratio

Measures a company’s ability to meet short-term obligations with short-term assets.

Formula: Current Assets / Current Liabilities

Example: $500,000 in current assets and $300,000 in current liabilities = current ratio of 1.67. The company has $1.67 in current assets for every $1.00 of current liabilities.

A high ratio indicates strong liquidity. A low ratio may indicate difficulty meeting short-term liabilities.

Quick Ratio (Acid Test)

A more stringent liquidity measure — it excludes inventory, which may not be easily convertible to cash.

Formula: (Current Assets − Inventory) / Current Liabilities

Example: $500,000 in current assets, $100,000 in inventory, $300,000 in current liabilities = quick ratio of 1.33.

Particularly relevant for businesses with slow-moving inventory.

Interest Cover

Measures the ability to meet interest obligations on outstanding debt.

Formula: EBIT / Interest Expenses

Example: $500,000 EBIT and $100,000 in interest expenses = interest cover of 5x. The company’s earnings cover its interest expenses five times over.

Note: interest cover doesn’t equate to full servicing capacity, as loans typically require both principal and interest repayment — this ratio only deals with the interest portion.

Gearing (Leverage)

Measures the proportion of a company’s capital financed by debt relative to equity.

Formula: (Total Debt / Shareholders’ Equity) × 100%

Example: $2,000,000 in total debt and $3,000,000 in shareholders’ equity = gearing of 66.67%.

A high gearing ratio suggests heavy reliance on debt financing and increased financial risk. A low ratio indicates a more conservative capital structure.

The bottom line: Financial analysis doesn’t need to be intimidating. A solid understanding of the three core statements — balance sheet, P&L, and cash flow — combined with a handful of key ratios will help you identify issues early, pre-empt lender questions, and present stronger applications. The more fluent you are in the numbers, the more confidence you’ll inspire.