Before a lender reads your story, they compute one ratio: the debt service coverage ratio, or DSCR. It is the bank's first question, and it is arithmetic, not judgment.

The definition

DSCR is the cash a business or property produces for paying debt, divided by the annual cost of that debt. Cash flow available for debt service over annual debt service. On a business acquisition the numerator is usually a normalized earnings figure (SDE or EBITDA, rebuilt from the documents). On a property it is net operating income. The denominator is the year's principal and interest on the loan being considered.

What the bank reads into it

At 1.0, the operation makes exactly what the debt costs, with nothing for a bad month. Below 1.0, it loses money on paper. Most lenders want a clear margin above 1.0, and many look for 1.20 or better before they engage seriously. The exact floor varies by lender and deal type, which is why the ratio belongs in your prep work, not your assumptions.

Illustrative example

A property produces $100,000 of net operating income a year. The proposed loan costs $80,000 a year in principal and interest. DSCR is 1.25: the property makes $1.25 for every dollar the debt costs. The same $100,000 against a $95,000 debt cost is 1.05, and most lenders will want to talk about price or equity before they talk about terms.

What DSCR cannot tell you

  • It is a snapshot. One year of normalized earnings against one debt structure. It says nothing about the trajectory of the business.
  • It hides seasonality. An operation that earns its year in seven months carries different risk than one that earns steadily. The ratio is the same; the cash timing is not.
  • It does not price the downside. A vacancy, a departing owner, a lost customer. DSCR answers "can it pay," not "will it keep paying."
  • It moves with the price. A profitable business can still fail the ratio if the price outruns the cash flow. The deal's structure matters as much as its operations.

If the number is thin

There are only four levers, and all of them are structural, not magical: a lower price, more equity in, cheaper debt, or more verified income. Sellers and brokers who present clean, reconciled earnings get the benefit of the fourth lever for free, because unverified income never counts.

What to bring to the conversation

Walk into the bank with the normalized earnings figure, the reconciliations behind it, and the ratio computed three ways: at asking price, at the price you can defend, and at your walk-away. A lender who sees you did that work reads you as a safer bet before the first question is asked.

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