This ensures that, when combined with borrowed funds, the business can operate on a sound basis and the owner is committed to its success. The value of invested assets should be substantiated by invoices or appraisals for start-up businesses or current financial statements for existing businesses. Strong equity, with a manageable debt level, provides financial resiliency to help a firm weather periods of adversity. Strong equity ensures that the owner or owners will remain committed to the business. Sufficient equity is particularly important for a new business.
Weak equity makes a lender more hesitant to provide any financing.
Determining whether a company's level of debt is appropriate in relation to its equity requires analysis of the company's expected earnings and the viability and variability of these earnings. The stronger the support for projected profits, the greater the likelihood the loan will be approved. Applications with high debt, low equity and unsupported projections are prime candidates for loan denial. Next come earnings requirements. Financial obligations are paid with cash, not profits.