The five C's of credit are Character, Capacity, Capital, Collateral and Conditions. Before the current credit crunch, a large number of lending institutions, in order to get more money on "the street," got away from these basics. Here's a brief explanation of each -- and what they mean to your company.

"Character" is often referred to as the most important of the C's.

Character refers to your understanding of the moral obligations of debt. The lender will look at your previous payment history, your compliance with the terms of the agreement, such as reporting requirements and loan covenants, and how you follow what you say.

No one likes surprises, especially lenders, so if your sales are going to be down or you're running at a loss, call your lender and discuss it with them beforehand. Maybe a restructuring or adjustment of terms is possible. The bank needs time to plan/adjust accordingly. It's not easy to deliver bad news, but remember: Bad news you deliver is better than a bad news surprise.

"Capacity" refers to the ability your company has to repay its obligations. In order to assess capacity, a lender needs to see financial history as well as financial projections.

Projections should be based on history and probable assumptions for the future. Lenders frequently like to see both best- and worst- case scenarios. They can assess for themselves where your company might fall. Capacity and cash flow are interrelated because without adequate cash flow, your company can't meet its repayment obligations. Too strong a cash flow projection might actually work against you in that the lender may require accelerated payments.

"Capital" refers to certain financial risk ratios, such as current and/or quick ratio, debt-to-equity ratio and working- capital ratio. These basic financial ratios help the lender measure the company's capital. In today's financial environment, the higher these ratios are, the lower their risk is to lend. Your financial adviser should be able to help you calculate these ratios. Consider tracking them yourself on a quarterly basis, not only as a tool to help you run your business but also to understand where your company stands with respect to the lending world.

"Collateral" refers to assets the lender has legal rights to for security to support the borrowings. The most common forms of collateral are accounts receivable, inventory and fixed assets.

Frequently, the lender may want to perform tests on the collateral. These audits are called collateral reviews. The collateral reviews are performed by either bank personnel or special outside auditors. The review generally takes three to four business days. The frequency of these reviews can be quarterly or semi- annually, depending on your prior experience with the lender.

In some cases where the lender has a greater level of uncertainty, these reviews can occur monthly. The cost of these reviews is generally between $2,500 and $4,000, paid by the borrower.

"Conditions" refers to the general economic conditions and your company's specific geographical and industry conditions.

The general economic conditions are self-explanatory. However, your company's specific geographical and industry conditions are areas where your lender will probably need detailed information.

Generally, there are specific nuances to each company. Do not assume your lender is completely knowledgeable about them.

You live your business each and every day. They only see you once a quarter or even less. So assume they need a refresher course each time they visit you. It's better to be safe and have them understand, rather than to be sorry when they call your loan.

As much as you need your lender to understand the environment your business operates in, you need to be equally knowledgeable as to the environment they operate in. Sharing of information is a very powerful business tool and one that, when used correctly and generally, head off misunderstandings.

Eric Wukitsch, CPA, of Morristown is chief financial officer of Vantage Custom Classics Inc. in Avenel. Participants in Ask the CPA are members of the New Jersey Society of Certified Public Accountants. More information is available at NJSCPA's public service Web site: MoneyMattersNJ.com.

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