Managing Your Debt

Even successful businesses have debt, but how much is too much? Learning how to manage debt is what can put you ahead.
Magazine Contributor
6 min read

This story appears in the December 2006 issue of Entrepreneur. Subscribe »

Only a short time after husband-and-wife entrepreneurs Karen Cooley and Eric Favier bought a friend's restaurant in 1991, they had their first taste of success. Sales at their Tallahassee, Florida, restaurant, Chez Pierre, had more than doubled in response to savvy marketing and expanded kitchen hours. But after five successful years at the location, the federal government acquired the restaurant's property to expand a nearby courthouse. "We were given one of those 'When life gives you lemons, make lemonade' kind of scenarios, and we had to move our business," says Cooley, 48.

So the couple took another leap of faith, buying and renovating a commercial building for $1.2 million to house the restaurant. It marked a major entrepreneurial milestone for Cooley and Favier, who had previously leased restaurant space from the original Chez Pierre owners. Not only did they now own their own building, but they were also knee-deep in debt because of the purchase. "It was really challenging, and we weren't sure where to go next [or] what to do," says Cooley.

For help managing the debt and charting a new course for the business, the couple turned to The Jim Moran Institute for Global Entrepreneurship at Florida State University. Among other things, they were advised to intensify marketing and build up sales to help offset the loan payments. Eventually, sales more than doubled to nearly $2 million annually in response to their strong marketing efforts. Marketing strategies included community networking, such as raising money for causes like cancer research, and publicizing the restaurant's off-site catering and other services. "We had many sleepless nights," Cooley says of their decision. "But it has turned out to be absolutely the right thing to do. We have so many different avenues for growing our business right now."

The couple has since added team operating partner David Michael Sprowles and is gearing up for another round of financing to further boost sales. Cooley and Favier, 50, plan to build an outdoor dining area that will include a wood-burning pizza oven and a seafood bar. "If you're going to take on more debt," Cooley says, "it not only has to generate enough in sales and profitability to take care of the debt service, but [also] put money back in the coffers.

"None of us has a crystal ball," she explains. "You're always trying to find that balance between having a successful business that is growing organically and knowing when it's time to go beyond that and put in more investment for infrastructure or new facilities. It's tough to do."

A Balancing Act
Indeed, taking on the right amount of debt can mean the difference between a business struggling to survive and one that can respond nimbly to changing economic or market conditions. A number of circumstances may justify acquiring debt. As a general rule, borrowing makes the most sense when you need to bolster cash flow or finance growth or expansion. But while debt can provide the leverage you need to grow, too much debt can strangle your business. So the question is: How much debt is too much?

The answer, experts say, lies in a careful analysis of your cash flow as well as your industry. "A business that doesn't grow dies," says Jerry Osteryoung, executive director of The Jim Moran Institute. "You've got to grow, but you've got to grow within the financial constraints of your business. What is the ideal capital structure a business needs in its industry to remain viable? The higher the volatility [in your industry], the less debt you should have. The smaller the volatility, the more debt you can afford."

Do Your Homework
To find out where your business stands, carefully examine your company's debt-to-equity ratio, which can help you keep debt within reasonable limits. The ratio is derived by looking at a company's long-term debt divided by its equity. Lower ratios typically indicate that the business is well within its borrowing capacity and can weather cyclical or seasonal downturns. Bear in mind, however, that this benchmark can vary widely by industry. As a result, you will want to identify a debt-to-equity ratio specific to your business, which can reveal whether you need to pay down debt, postpone borrowing plans or even secure an investment to get your business on track. To get started, check out, which provides a useful online listing of average debt-to-equity ratios by industry.

Although banks and other financial institutions look for a satisfactory debt-to-equity ratio before agreeing to make a loan, don't assume a creditor's willingness to extend funds is evidence that your business is in a strong debt position. Some financial institutions are overzealous lenders, particularly when trying to lure or hold on to promising business customers. "I've seen cases where banks have [lent] way too much to a business," Osteryoung says.

Grant Lacerte, owner of Winter Haven, Florida-based Financial Research Associates, agrees. "The bank may be looking more at collateral than whether the [business's] earnings are going to come in to justify the debt service," says Lacerte, whose company publishes small-business financial studies.

As an owner of two businesses, Lacerte says he is constantly inundated with credit card offers for working capital and lines of credit, many from large banking institutions. "The bank is not [conducting] any financial analysis on the business's financials," he says. "They just go by the creditworthiness of the firm based on its past bill-paying experience. They're not looking at the real worth of the business and the ongoing ability to pay off that debt.

"In the old days, a commercial loan officer would do a credit analysis. [Today,] I see small businesses not even doing seven figures in revenue [being] offered a $100,000 credit line just like that," Lacerte says.

To avoid these and other credit pitfalls, it's up to you to get the financial facts on your business and make sound borrowing decisions. Unfortunately, many entrepreneurs fail to recognize how important financial analysis is to running a successful business. Even business owners who receive detailed financial statements from their accountants often do not take advantage of the valuable information contained in the documents.

Even though getting a handle on these things might seem like an intimidating task, not having an accounting degree is no excuse, says Lacerte, who is developing a web-based subscription service to let business owners submit their financial information to compare it with key industry benchmarks. "With QuickBooks and [other kinds of] available software, [business owners] can extract the information they need," he says. "It's just a little educational process to understand what those ratios mean and let them be warning signs that they're going to get themselves into trouble."

Crystal Detamore-Rodman is a Charlottesville, Virginia, writer who covers the small-business finance market.

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