For Acquisition Financing, Historical Financial Statements Are a Valuable Asset

Most buyers who are looking to acquire a business will need or want to secure third party debt financing to maximize the leverage of the business assets and cash flow and minimize their down payment.

Put it another way, all cash purchases are fairly rare with respect to business acquisitions.  Even if an individual or company could pay cash, they will likely want to cover off some of the purchase price with debt capital in order to reduce their weight cost of capital.

But business acquisitions can be very difficult to finance with third party debt, even if the required business loan amount is only a small portion of the total funds required.

There are several reasons for the high degree of difficulty securing business loans, far too many in fact to effectively cover off here.  Instead, we’re going to focus on one of the key things that kill many business acquisition financing applications and that’s the historical financial statements provided by the vendor.

First, a lender will want to go back at least 3 years, but would prefer a longer view of historical performance.  The longer term view of the business may not support the repayment analysis, especially if the near term results are stronger than those 3 or 4 years ago.

Second, especially with smaller businesses, the historical financial statements are done under a notice to reader accounting statement, providing very little if any third party verification of the results shown.  For acquisition loan requests, especially those based highly on cash flow, lenders will not rely on notice to read statements.

Third, its not uncommon for the vendor to pull out all the stops the last year prior to sale to make the statements appear as good as possible which can also distort them compared to long term results, creating a lack of lender confidence in the financing opportunity.

Fourth, vendor’s may have several strategies to withdraw cash out of the business to save on both business and personal taxes.  These strategies may not be easily identified in the historical results and while the vendor can disclose them so a lender can add them back, vendor’s tend to only focus on what was actually reported.

Fifth, if the business has some amount of cash sale component, its not uncommon for the vendor to not report all sales.  The result is that the financial statements understate the real financial performance of the business.

While the buyer is the one trying to secure the financing, the ability to do so will correspond directly to how much the vendor has invested in the historical financial statements.  And the ability for the vendor to secure the highest possible sale price is going to likely depend on debt financing which will once again be influenced by the historical financial statements and the accompanying support information.

The key take away is that spending money on a higher level of accounting opinion and bookkeeping  that can be more easily verified by the buyer and third party lenders should be considered an asset that can generate a substantial return by allowing the buyer to not only secure debt for the purchase, but a higher level of debt so the down payment does not have to be as substantial and higher purchase prices can be considered.

Click Here to Speak Directly With A Business Financing Specialist For All Your Business Acquisition Financing Needs.

The New World Of Small Business Acquisition Financing

If you are a buyer or seller trying to complete a purchase or sale of a small business, especially for a service based business, you hopefully will already be aware of how to approach the process of financing the transaction.

If its not a cash purchase, and additional financing is required, both seller and buyer need to be prepared to self finance the deal.  Basically the combination of cash and vendor financing will be all that’s going to work in a lot of cases.

Third party lenders have very limited interest in these deals as the transitional risk to the ongoing business is statistically high and there is very little if any hard security of value available to a lender to secure their lending position.

The current recession has dried up most of the sub prime business debt that is typically based on the historical cash flows of the business.  Even when these loans are available, the lenders expect both the vendor and the buyer to be making significant contributions to the financing package, so even in the best case scenario, a third party lender will only provide 30% to 50% of the purchase price.

Lenders will also require the vendor repayment to be done over a longer period of time than typically expected by the vendor in order not to drain the business of cash and equity in the short term which can impact the longer term business health.

And any debt financing that may be possible to arrange is going to require a lot of third party accounting support of the last three years business operations before a lender is going to be comfortable with the strength of the underlying business.  If the vendor has not invested sufficiently in third party reporting, its unlikely that the buyer is going to be able to secure any affordable business financing for the acquisition.

The biggest challenges right now in the market is that buyers are searching for financing that either doesn’t exist or that can’t be secured with what the vendor is got available to support historical financial performance.

The key take away is that the buyer and vendor need to try and figure it out themselves, or work together to try and get a third party lender to provide some of the financing to get the transaction closed.

For a acquisition financing to be secured, the final capital structure needs to be a win for buyer, vendor, and third party lender.

For assistance with acquisition financing, call business finance specialist Brent Finlay

Different Levels of Small Business Equipment Financing

There are basically four levels of small business equipment financing where the financing required is no greater than $250,000.

The first level is obviously provided by traditional banks through both loan and leasing programs.  In Canada, the chartered banks will make equipment loans via the small business loan program insured by the Federal government for total acquisition costs of no greater than $250,000.

These loans get financed at around 5.5% at the present time, or roughly prime plus 3%.  Because this is considered very low interest rate borrowing, even though the debt is partially insured by the government, there is a fair bit of qualifying required.  And even for those that do qualify, the amount of financing provided tends to range from 65% to 75% of the equipment acquisition and placement costs.

Some of the banks also have a leasing division that works outside of their commercial loan programs and administered at a head office level.  While banks can provide equipment leases for smaller ticket amounts more common with small business, these programs are more focused on larger ticket amounts where the objective is to use low cost, high ratio lease financing to attract new commercial clients to the bank.

The second level of equipment financing is still through institutional lenders and is typically between 6% to 10% interest range.  These are term loans that have similar qualifying requirements as the first level, but are more designed for larger value loans that don’t quite fit into the bank qualifications. These types of programs will also consider one off transactions in most cases.

The third level is equipment leasing from leasing companies where most financing requests considered are no greater than $150,000.  The best interest rates from this group range in the 9% to 14% range and while higher than traditional bank loans, can provide financing amounts in excess of 100% of the equipment, delivery, and installation costs for strong financial and credit profiles.  So for many small businesses, the higher costs of financing is a trade off for greater equipment financing and leasing leverage.

There is a second tier in this type of financing where weaker financing profiles will be considered in rate ranges from 15% to 20%.  The leasing decisions tend to be very subjective on the part of the leasing companies which can make it very difficult to predict which of these companies will be interested in any particular deal.

The fourth level of equipment financing and leasing is pure asset based lenders that are strictly focused on the liquidation value of the equipment and tend to provide equipment leasing rates in the 18% to 25% financing range.

While there are a number of financing sources in the small business equipment financing and leasing space, the individual lender criteria can change constantly, especially with companies that hold smaller portfolios that can easily be impacted by changes in rate or even slight increases in arrears accounts.

And being able to qualify for lower cost financing can be a very point in time event whereby at certain points in time, a business scenario can qualify for lower financing rates and at other times, the exact same scenario will not.

If you have an equipment financing or leasing requirement for small or large ticket items, please give me a call so I can quickly assess your requirements and provide relevant options for your consideration.

Click Here To Speak With Business Finance Specialist, Brent Finlay

Even Higher Priced Asset Based Loans Can Work In The Present Market

The present capital market is more asset based and risk averse than what business managers and owners have gotten used to in recent history.  And while a traditional asset based loan costs significantly more than what one would expect from a corporate financing program, the higher rates are something to seriously consider in the current market place.

The recession has created a lot of unfortunate circumstances for otherwise strong and well managed companies.  As a result of lower sales, lender demands for repayment of existing debt, or capital required for expansion or equipment upgrades, business owners and managers are now forced to consider options they would never of previously given a second thought to.

But in lieu of where the capital markets are sitting right now, the asset based lenders have become the best option for many businesses, whether the business owner likes it or not.

From the borrower’s point of view, the lending rates between 1.5% and 2.5% per month can seem to be outrageous.  But from the lender’s point of view, the rates reflect the risk in the market and are based more on an equity return than a debt return, which relates to the saying that with asset based loans, you’re renting equity as there are no other lower priced debt options.

From a cash flow perspective, the cash based loans tend to be interest only and are short term in nature, not intending to be in place for more than one or two years.  So even though there is no principal pay down, the actual debt servicing requirement in the cash flow may actually be less that a lower priced corporate financing deal that requires an amortized repayment.

This is what can make the asset based solution affordable for many companies with asset equity and limited debt financing options.  By being able to cash flow the debt service, even at higher interest rates, the business can potentially draw on the capital necessary to main or grow operations until things settle down and better financing options become available.

This is still a better option than selling off part of the company in that the owner has the ability to repay the debt at any time and retain full ownership and control.  So like I said, its a lot like renting equity.

Click Here To Speak With Business Financing Specialist Brent Finlay About Your Business Financing Needs

More Reasons For Having A Business Financing Strategy

In my last post, I laid out why its become more important for business owners to have a more formalized business financing strategy in place on an ongoing basis for their business.

Here are some additional reasons why this has become more important in the current market.

• No Senior Lender Security.  With the capital markets in major melt down, no senior lenders are guaranteed not to suffer significantly from the current recessionary process.  As a result, no matter who you’re senior lender is or how long you’ve been with them, and whether you’re in covenant or out of covenant, there are no guarantees that your demand loans will not be called or reduced now or in the near future.This means that all businesses need to have their financing profile up to date at all times and they should also have an ongoing awareness of their primary and secondary options to finance their business if required.  For many, many businesses, this is something that is beyond comprehension as several have gone decades without any senior lender related issues.  But the world has changed, and its time to adjust or be left scrambling when circumstances move against you.
• Source of Contingency Funds.  The term contingency planning is often brought up but seldom put into any type of practice for most business operations.  With the tightening up of capital markets and the unpredictability related to securing incremental business capital, its become more important to have a capital contingency plan in place.  This can involve working towards reducing the amount of leverage as a percentage of equity on your balance sheet, creating credit reserves in your cash or debt financed lines of credit to allow for short term down turns in business, developing emergency funding plans and sources of financing that can be injected into the business if required on short notice.
• Lower Risk Growth Plans.  While all businesses have the ultimate desire to grow and enhance profits, the strategic process for planning and implementing growth strategies need to take capital requirements into consideration to a greater extent that what we’ve typically seen in the last decade or more.  Strategic plans need to be more closely reconciled to more conservative capital availability predictions so that the business does not get over extended during a tough to predict and manage external capital environment.  This can be a major departure for aggressive business owners who are used to always being able to fund whatever projects they want to undertake whenever they want to undertake them.

This speaks to a more conservative approach to third party financing, whether it be debt or equity, until some reasonable amount of stability returns to the capital markets.

Click Here To Speak With Business Finance Specialist Brent Finlay

Having An Up To Date Business Financing Strategy Is Becoming More and More Important

Does Your Business Have a Business Financing Strategy?

If you’re like most business owners, the answer to the question of having an actual formal business financing strategy is likely No.

The status quo for decades for most businesses has been to focus on what generates cash flow and deal with business financing as a short term project, whenever its required.

This typically has some form of time pressure associated with it, and because there is no regular attention spent to how to properly go about getting financing arranged, brute force tends to be employed to get through the process, get the required money in place, and then get back to work.

This has been the “business financing strategy” for many small and medium sized business largely because it worked.

Leaving things to the last minute and scrambling around to get funding in place has been an effective strategy for many. Yes, it can be a pretty stressful process to go through, but its not required very often, the results get achieved, and the pain generated quickly dissipates due to small time box everything is forced into.

The challenge going forward is that the world, at least for the foreseeable future, has changed. The probability of leaving business financing needs to the last minute and then depending on brute force and will power to muscle things through has gone way down for a number of reasons.

First, there are significantly less business lenders now than 2 years ago, and the number continues to decline on an almost daily basis as the recession continues to unfold.

Second, many of the surviving lenders aren’t lending money as they scramble to collect the accounts they already have. Even if they wanted to lend money, many of them are having a hard time finding sources of funds to finance new business loans.

Third, the more established lenders are taking a more cautious approach to the market and are being more selective with opportunities and taking their time with deal assessment, not being particularly interested with anyone in a flaming rush.

And based on the current state of the capital markets, things are not going back to the status quo any time soon, effectively changing the status quo.

So now is the time to move to a more formalized business financing strategy and approach. This is something that all businesses require. Obviously smaller businesses are less capital intensive, but they still have cash flow and have to be able to fund it if they want to stay in business.

In my next post, I’m going to get into even more specifics as to why a business financing strategy is something that business owners are going to have to start investing time in to either stay in business or grow their business.

Click Here To Speak With Business Financing Specialist Brent Finlay

Commercial Financing Applications Need To Take A Different Approach

With all the changes going on in the capital markets these days, business owners and managers need to reconsider how they go about applying for commercial financing.

The typical approach taken over the last several decades by small and medium sized business owners when applying for business financing was to start the process late and provide basic information including cursory business plans and thinly supported projections.  Because of the strength of the overall economy, lenders and investors were comfortable with making lending or investing decisions from basic information.

This is not to say that considerable effort didn’t have to go into the process, but compared to today’s market, the overall lending requirements and demands for information have significantly increased.

The direction of greater focus is on management of business risk and the lender or investor protection against funding loss.  For debt financing in particular, lenders are more focused on asset security and less interested on primarily cash flow based lending.

This is a significant departure to what businesses have gotten used and its a change that many still have not made when seeking financing.   And the reality is that failing to change the positioning of a commercial financing application so that it aligns more closely to market requirements will likely result in no new capital coming into the business.

This is a real problem not only for dealing with short term cash flow deficiencies that directly impact operations, but also for all the time and effort that can go into long range planning that may not align with securing the capital required to bring things into fruition.

A better approach for debt financing needs to become more focused on hard security, details on customer and supplier financial profiles, projections that cover a longer period of time and have well supported variables,  projections that include balance sheet, income statement, and cash flows, and a business plan that provides more tactical details and less theoretical potential.

Financing strategies are now going to have to be developed farther in advance to accommodate a very unpredictable and picky  capital market focused on good deals where the risks are clearly mitigated.

Leaving things to the end of a transaction or waiting to close to the time when money is required is going to be a dangerous practice as the probability of getting anything of significant size into place quickly is low.

For More Information On How To Better Position An Application For Business Financing, Click Here To Contact Business Finance Specialist Brent Finlay

The Business Financing Prime Rate Is A Bit of An Illusion

Most everything we here about the prime lending rates being kept at historically low levels by their respective country administrators to keep the global economy from stalling out during the recession is a bit of a farce for the small and medium sized business that contribute to driving the economy.

Yes, if you’re a well established company with a senior bank credit facility, your cost of operating has gone down due to historically low interest rates.  But in many cases, the cost saving that are realized wouldn’t make or break established companies with the balance sheets to qualify for low interest rate debt.

If a company gets offside of their balance sheet and income statement covenants with a bank, they either get their interest rate jacked up nullifying any savings, or end up with a special loans tag which can  lead to a forced payout that is even more expensive if not fatal in some cases.

For all other businesses that are looking to start, expand, grow, replace assets, and so on, interest rates near prime are mostly a myth.

Unfortunately, no one told business owners who are frantically in search of business capital right now, working off their long term conditioning of what should be available to them based on where the prime rate is sitting, that things are not what they seem.

Whether this is good or bad, fair or unfair isn’t really the issue.  Prime plus rates are difficult to secure because the economic risk is higher and lenders are being more cautious until the recessionary impacts work themselves out.

The key learning is that things are not what they seem and as a result, business owners need to reassess their ability to access incremental capital and the related cost that comes with it.

Failure to adjust to the current environment can not only waste valuable time and money searching for something that isn’t there, but it can also put basic business operations and incremental sales opportunities at risk.

The solution may be to forgo expansion or new business endeavors in the short term, or focus on lower levels of potential profit to cash flow a higher cost of capital.

For businesses offside on their financial covenants that have received a demand for repayment from their senior lender, it could be very unlikely that a similar senior lender is going to be available to replace the existing one and an extended search for money that has a low probability of being there could run the business out of time for structured and civilized refinancing.

Adjusting financing expectations sooner than later can have a profound impact on the long term health of the business.

Click Here To Speak To Brent Finlay About Your Business Financing Requirements.

The Business Financing Landscape Has Changed … Get Used To It.

I’ve written a lot lately about many of the changes in the capital markets and many of the ways these changes have impacted the ability of small and medium sized businesses to locate and secure financing.

The hard part of these recession driven changes to the market is that there isn’t going to be a near term return to the market conditions we’ve basically gotten used to over the last two plus decades.

Let’s face it, the capital markets have not seen anything like this since the end of the second world war.

A large percentage of the capital markets were driven and built up over time by the long run health of the overall economy.  Yes, there have been some significant bumps in the road over the last thirty or so years, but nothing as game changing as what we’re seeing right now.

Large parts of the market have disappeared all together as record numbers of bank and commercial financing company failures lead the headlines on an almost daily basis.

When the economy gets back to steady monthly growth, the crater in the market we now see isn’t going to fill up anytime soon.

This tells us that the go forward business financing market is going to take on a very different look for some time to come and it may take decades to get back to anything close to what has been in place in recent memory.

The biggest benefit to business owners with the old status quo was that there were numerous sources of capital all trying to carve out their own unique place in a market that seemed to be growing without end.   Similar to the residential market, the commercial sub prime market exploded as companies raced to get their share of the market demand for more capital.

But when the economy slowed down, and highly leveraged companies started crashing all over the place, starting a domino effect like nothing we’ve ever seen and are still experiencing, collapsing the capital market structure that was created over several decades.

And while government bailouts have helped stabilize the money supply to some extent, its hard to know if the main beneficiaries are actually going to make structural changes to their practices or continue on overheating the economy once things get back on track, getting us all set up for another recession in the not too distant future.

Bottom line to all this is that things are going to be different from now on and may be significantly different for decades to come when it comes to locating and securing business capital that your going to be able to cash flow.

Business owners have been spoiled by the funding choices available to them, causing them to practice what I would call less that optimal business finance practices.  In fact, in many cases, there is no business finance strategy at all.

The reality is that when you borrow money or take on an investor, the money belongs to someone else and they are going to want it back.  The building up of debt over time without a plan to pay it down is good in theory from a weighted cost of capital point of view, but in reality sudden changes in the fortunes of your lender or investor can turn your business upside down in a hurry with no solution in sight.

Business owners need to get back to contingency planning, having some amount of capital buffer to weather financial market storms, and managing their balance sheets so that debt levels are kept in check.

The days of fast and loose money are gone for now and I’m not sure if and when they’ll be back.

Click Here To Speak To Brent Finlay For Your Business Financing Needs.

Cash Flow Management Now Requires Greater Diligence

As I’ve previously written that while the out look reports for the current recession are improving, the after effects are only starting to surface in many cases.

A recession impacts the money supply and the flow of cash through the economy.

When one area of the economy becomes cash flow constrained, the impact will slowly ripple through the rest of the economy through the related connection points.

On more of a micro level, this has the potential to impact businesses of all sizes from several different directions.

First, the business could have its commercial credit reduced by its lender or pulled completely if the lender goes out of business, which they are in record numbers.

Second, the business may not be able to access new credit for upgrades or growth, impacting its ability to perform.

Third, sales may be down to the point that fixed costs are not being covered off and cash flow injections are required.

Fourth, customers may become slow to pay or default payment.

Fifth, vendors may cut back on credit or reduce their own product line of goods the business requires.

All these and other scenarios can create negative impacts to the cash flow.

The most damaging aspect to these ripple effects is that you may not see them coming until its too late to do anything about it, or at the very least, leave you scrambling to address the problem.  When you’re hit with multiple issues from different directions, the impact can be exponential in nature.

This is where proactive cash flow management has become critical in the current business environment.

As a business owner, the goal is to reduce risk where ever possible to assure the long term profitable survival of the business.  Proactive cash flow management has now gone beyond accurate forward projections on inflows and outflows and now must include greater diligence into what could potentially happen to the business and how to mitigate the potential unforeseen risks.

And cash flow protection is likely going to cost additional money, but the alternative of not being proactive can cost substantially more.

Examples of more proactive measures could include:

• Accounts receivable financing for larger customer accounts.
• Credit reviews of existing customer accounts and a review of credit granting policies to new customers.
• Applications for credit with additional vendors.
• Development of an additional vendor list even if credit is not available.
• Internal operating cost reduction strategies.
• Inventory reductions.

Most business owners are too busy with their businesses to believe they need or have time for any of these activities.  The assumption is that if they get in some sort of cash flow bind, they can borrow their way out of it.

The reality is that business financing for distressed cash flow is a hard ticket to come by these days and some of the forms it comes in if you can find it are very pricey.

The recession is far from over.  Financial markets are basically in disarray and have become completely unpredictable.

Whether you get hit by the storm or not isn’t the issue.

Whether you can survive a hit or multiple hits is.

Click Here To Speak With Business Financing Specialist Brent Finlay