Business Financing | New Year Considerations
If You’re Trying To Secure Capital In Q1 of 2010, Here Are Some Things To Consider
First of all, Happy New Year to everyone.
The page has turned and we are now into a 2010 business financing environment, quarter number one.
Now many of you may ask, what difference does a few days make from the end of December, 2009 to the beginning of January, 2010?
While the differences may be subtle to some, there is a definite shifting of gears from a business finance point of view and can have a significant impact on your ability to secure capital and your cash flow management.
If you’re either in the process of securing business capital, or just starting and you have a December 31st year end, many lenders will not provide you with an approval for funding until your Dec. 31, 2009 financial statements are completed.
Yes, even though the required filing of your annual statements is probably not until the end of June, 2010 (depending on your country of tax jurisdiction), your chosen source of financing may require you to do it much sooner.
Once the calendar turns to January, accounting firms enter their busiest period of time related to December fiscal year ends and personal income tax filing requirements. So if you need your business financial statements done quickly, you’d better get the work booked with the accountant as quickly as possible and also make sure that you have all your own information up to date so that the process does not get delayed.
For Debt lenders that have December 31st year ends, January marks a new fiscal period of them as well where they will have new budget targets and potentially new programs and lending criteria to apply. The key point here is that whatever they were doing in December with respect to loan approvals can be very different in January.
Banks and other debt lenders are going concern businesses trying to manage their profit pictures and balance sheets just like everyone else. So if a debt lender with a Dec. 31st year end enters their last quarter below budget and targets, they are likely going to be more aggressive in their lending practices in the last quarter, all things being equal.
If the lender is way ahead of targets in the last quarter of 2009, they may become very conservative in their approval process for the remainder of the year in an effort to bring higher quality loans onto the books that will improve the risk rating of the overall portfolio.
On the flip side, the start of a new year can trigger a conservative lending approach whereby lenders try to see if there are enough low risk deals out in the market place to meet their goals. If this doesn’t prove to be the case, then lending criteria will likely loosen up in Q2 and Q3.
There will also be lenders that have January, February, and March year ends where the same type of thinking can apply in each case as managers work to hit their numbers.
In business financing, timing is everything and when the year changes over, there are likely going to be some noticeable differences that will impact your capital procurement efforts.
Successful Exit Strategies Can Involve Both Acquisition Financing And Vendor Financing
Have You Though Through How Potential Buyers Will Finance Your Business In Your Exit Strategy?
So your in the process of selling your business or planning for a business sale in the future as part of your exit strategy.
As you go through the process of getting your business ready for sale, take some time to consider how you can assist potential buyers with their purchase.
While cash sales do occur, most purchases of business assets or shares require financing against the assets and/or shares to be acquired.
If business financing can’t be arranged, the deal will not close and you’re going to have a harder time completing the sale process.
Yes, all business financing applications are unique and draw into consideration a number of factors outside of the business being purchased. But regardless of the profile of the borrower, if the underlying business acquisition can’t secure financing, there won’t be a deal.
Going one step further, its not unusual that in addition to third party debt or equity acquisition financing, vendor financing may also be required. Especially in cases where the purchase price contains a portion of goodwill (which is likely in most transactions involving a going concern business operating at a profit), the vendor is expected by many third party capital sources to provide some of the overall financing requirements.
As a vendor, there are two important things to take note of.
First, how much acquisition financing would the historical financial performance of the business, asset value, and present state of being attract from third party lenders and investors?
Second, how much vendor financing is the vendor comfortable providing and under what terms?
In response to the first question, if the business has focused on lowering it’s tax position in recent years and the owner has creatively taken money out of the business, lowering the retained earnings in the process, there may not be as much borrowing power as one might think. Lenders and investors are going to look at the financial performance of the business over a 3 to 5 year period to ascertain the amount of debt the business can manage. Recasting of numbers aside to allow for creative accounting and tax reduction strategies, the historical financial performance may not support the type of leverage the buyer expects against the purchase price.
Vendor’s that take this into consideration and create a business financing picture over recent history (3 to 5 years) that supports higher leverage will not only sell their business faster, but also come closer to getting their target sale price.
This is where the second question comes in. If less acquisition financing is available than expected, the vendor has to either reduce the purchase price or provide more vendor financing.
Too often in deal negotiations, the vendor will provide very rigid vendor financing terms and conditions that are designed to reduce the vendor’s risk, and not the risk of anyone else. And there are other risks. For the buyer, if the vendor financing repayment terms are too aggressive, the buyer could risk giving the business back to the vendor it repayment falls short. For a third party lender or investor, the cash flow stress of an accelerated vendor repayment plan could jeopardize the long term health of the business.
The reality is that any financing package will need to cover off the risks of all parties and that’s unlikely to happen when the vendor provides take it or leave it terms for a vendor financing component before third party acquisition financing is even figured out.
Basically, it comes down to the vendor helping the buyer buy the business.
Acquisition financing can be hard to pin down for some of the very reasons alluded to above. If the vendor wants to reduce or eliminate the need for vendor financing, then he or she needs to make sure the business being sold can generate as high a level of leverage as possible.
If vendor financing is required, its likely going to have to be coordinated with the third party financing in terms of security positions and debt repayment schedules.
The key takeaway here is that the vendor has tremendous influence over buyer financing which will be the key in a successful purchase and sale transaction in most situations.
The Evergreen Exit Strategy
The Exit Strategy That Keeps Your Bags Packed
One of the many challenges in creating a viable exit strategy for selling off your business interests is how to determine the timing.
Its one thing to say you want to work until your 55 and then sell the business, but it could be quite another to actually have a motivated buyer show up willing to pay your price.
So I propose the evergreen exit strategy whereby the business is always up for sale in a figurative sense i.e. there is no permanent for sale sign sticking out of the lawn or hanging from the side of the building.
With an evergreen exit plan, the business owner has developed the mind set that he or she cannot control when the best time is to sell, so they have to focus on what they can control, which is making sure everything in the business is up to date and supportive of a potential sale, and making sure that the day to day actions of the business are directed towards increasing the overall value of the business.
This mind set is not easy to develop as many business owners are more locked into the thinking that they will sell at retirement, period.
But an evergreen mind set always allows for the ability to consider and react to any opportunities that may arise at any time.
Think of it this way. If you’re 10 years away from your expected time of exit and a highly motivated buyer comes along for some reason and wants to offer you considerably more for your business than even you think its worth, would you not want to seriously consider any potential offers that interested party is prepared to make?
Even if you develop the proper mindset, there’s still some work that needs to be done to allow you to even seriously consider opportunities that may arise.
First, the business must maintain what I call a “sell-able” state of being. There has to be a continual effort to make sure that the financial statements are up to date, that all equipment and facilities are in a good state of repair, that regulatory issues or legal issues are dealt with quickly and not left to linger, that employee, customer, and supplier contracts are up to date, that the business has developed sufficient management depth to allow profitable operations to continue once the owner is gone, and so on.
If your business can’t stand up to the due diligence process of the prospective buyer and his or her advisers, then any opportunity that does materialize may just as quickly pass you buy.
Second, the business owner(s) has to be prepared to look at any opportunities quickly as motivated buyers don’t tend to stand still very long and could very well move on to the next best option.
Following this strategy also doesn’t require you to do anything if you don’t want to, or don’t feel the benefit is sufficient to sell. What it does do is allow you to be as opportunistic as you want to be.
Over a period of 10 to 30 years, the future is going to be very hard to predict. So when opportunity comes knocking, it may very well be worth opening the door and seeing what’s on the other side.
Business Financing | Why Special Loans Aren’t So Special
Things To Consider About Having A Special Loan Status
In Canada, banks call business loans that are not meeting their required financial covenants as “special loans”. I’m not sure what they’re called in other parts of the world, but the implications are the same.
When a loan falls into the special loan category, the bank must now decide what their course of action is with the account. In 2009, word has it that there are large numbers of special loans on the books due largely to the impacts of the current recession. And unlike past recessions, the banks appear to be a bit more patient with borrowers or at least they have been to this point.
In the past, when borrowers would fall out of covenant, the special loan officers jobs were to help get the loan back on side, or figure out an exit strategy for the bank to get their money back. In most cases, the latter tended to occur both frequently and quickly. This time around, the banks have been going to greater lengths to work with clients, especially those that are marginally offside with their requirements.
And perhaps this has been a good strategy to maintain bank revenues. With recessionary forces in affect basically all of 2009, lending is way down with much of the decline directly attributable to lenders being more cautious with new lending approvals. So working with special loan accounts, at higher interest rates due to the higher inherent risk, has created a new source of earnings. So you get a double win… fewer loan right downs and higher net average earnings (in theory anyway).
But is this likely to continue in 2010.
Its hard to say.
As recessionary forces subside, new lending will be more prevalent, perhaps creating the opportunity for lenders to return to past practices of getting their money out of special loans as fast as possible.
But if there is any type of government support available to lenders to offset the higher risk they’re carrying in their portfolio, then perhaps this “working with the client” strategy will continue.
Regardless of what does transpire, one should always be concerned with carrying the special loan (or its equivalent) tag. Lender policies can change quickly and just because they have been working with you in 2009, there is no guarantee that this goodwill at higher rates will continue into next year.
For any business owner classified with a special loan status, they would be well advised to thoroughly assess their refinancing options with other sources of capital and repeat the exercise every quarter to make sure they are on top of what plan B and C may look like if the banks choose to go in another direction.
Things can change quickly and refinancing a business can be very time consuming, so its best to spent time not only trying to get the lending covenants back in line but also to build out a contingency plan to keep the business a float in the event of a change in lender strategy.
Construction Financing Trap
Do You Have An Exit Plan For Your Construction Financing?
All construction financing projects have a definite beginning and end. The beginning is marked by the approval of a construction loan or mortgage to secure capital for building costs. The end is marked by the retirement of the construction mortgage through another source of capital.
If you plan to keep the property after construction is completed, then you’re going to have to “take out” the construction financing in place with a long term mortgage instrument that will amortize the cost of construction over a long period of time.
When construction mortgages are arranged at the same time as the long term funding, the construction costs will flow from the short term construction financing facility to the longer term property mortgage at the successful completion of the construction project.
However, its also not uncommon that a financed construction project can be well underway without any long term funding lined up.
Many times there is an urgency to get a project started, and once construction funds have been arranged, the project will begin with the thinking that the term out mortgage will be easily acquired towards the end of the project.
But this is not always the case.
When term financing can’t be secured on schedule, the consequences can become rather costly.
Construction loan interest rates tend to be significantly higher than long term mortgage rates. So at the very least, the cost of the project will go up as the financing costs of the construction mortgage will stay in affect until it can be paid out.
But if term financing proves to be elusive months after successful completion, the borrower can also run the risk of the lender taking action against the property to recover the construction costs.
Construction lenders understand the risks associated with this type of funding and while its not likely their preference to take an action against a borrower to get repaid, they are more than prepared to do so if required.
Not pre-arranging a take out mortgage can be a well calculated risk by a borrower such as a builder who has experience with the process and has several long term property lenders in the immediate area that would be interested in the finished project.
But in situations where the project takes place in a remote area and the use is somewhat specialized where there is not a highly active reseller market for the property type, term mortgages can be hard to find at times.
Obviously, the best way to avoid the risk is to not commence the project until both the front end and back end funding have been secured. But if that’s not possible without delaying the project, and the probability of term financing appears to be high, you may still chose to get started on construction (depending on your risk tolerance of course), but there should be a continual focus on getting the long term funding pinned down sooner than later.
One of the key reasons problems do occur is that once the project starts, all the attention gets focused on project management, and the efforts related to finding and securing long term financing are redirected or put on hold. If this activity is delayed too long, there can be serious timing issues at the end of the project.
Courting Equity Capital
Things To Consider When Courting Equity Capital
Its been written many times over that selling shares in your business and taking on equity capital in return is many ways like marriage… long term potential commitment, relationship challenges, the difficulties in breaking up, and so on.
I’m not going to recycle this analogy. Instead, I want to focus on the preamble and courtship that comes prior to the union and I want to look at it from both sides of the courtship.
From the point of view of the business owner seeking capital, the process can be many times drawn out and rather grueling. Any interest that does surface can easily be mistaken as love at first sight due to the stressed out and/or desperate nature of the those seeking capital.
Like any courtship, there should be a dating process whereby several meetings take place over a period of time to see if there is a worthwhile relationship to develop or not. Those seeking capital can develop tunnel vision over the physical (money) attributes and overlook other characteristics and flaws that should be evaluated as well.
Regardless of how tired or desperate your search for capital has become, a proper courtship should still be undertaken before jumping into bed with a potential investor. Every investor has a history, a past, a lending portfolio and strategy that one would be well advised to learn about before cashing any checks.
From the investor side that provides equity capital for an interest in a business, the same need for courtship also applies.
Investors, for the most part, are more courtship oriented, especially those that have previous investments notched in their belt and have likely seen a lot of what can happen when there is a Las Vegas type wedding ceremony between the parties soon after meeting.
An investor is far better served by playing a bit hard to get and being prepared at the outset for an old fashioned courtship. As mentioned previously, the business seeking capital is too often in a hurry and wants to get funding in place as soon as possible. These capital seekers can provide well polished presentations and convincing arguments why they should be the ones chosen to receive equity capital.
The interesting thing about courtship is that many times the applicant for capital can’t provide any great level of substance after the flurry of the initial presentation and first few dates. If an investor can find an opportunity with some real staying power over several meetings as well as being able to hold up to some background checks and story verifications, then there may be a serious relationship in the making.
While both sides can feel the pressure of outside competition competing for the others affections, in the end, goodness of fit is more of a courting process than an intense weekend fling.
For those couples that take the time to put each other through their paces, the resulting opportunities will be far more rewarding if further pursued and far less regrettable if the process of courting equity capital reveals significant blemishes and warts lurking beneath the surface that otherwise would have been overlooked or gone unnoticed until after the wedding.
Securing Capital For Your Business Financing Requirements Is All About Time
When Seeking Capital For Business Financing There Is A Relationship Between Money And Time
One of the first things to realize about money is that there is almost an infinite supply of it on a global basis.
The number of potential sources of financing are too numerous to consider over several lifetimes.
So if you have a business proposal with a solid value proposition, there is likely going to be some one or something out there that would be interested in providing business financing to you.
That’s the good news.
The bad news or perhaps more unexpected news most business owners and managers either don’t want to hear, or find out about the hard way, is that there is a direct time relationship between the money you’re looking for and time it takes to locate and secure it.
For traditional forms of business financing for things like equipment and real estate, the time period can be a matter of weeks to a month.
For securing government grants and loans, the time period can take several months.
Equity capital can take months to years.
The more unique your value proposition, the longer its likely going to take to find the right fit.
And remember that all this is predicated on having something of value to leverage in the first place.
The point here is that while there is lots of money out there, it’s going to take time, sometimes a lot of time to secure the capital you seek.
Common thinking is more on the lines of the opposite point of view whereby the average business owner or manager assumes that securing capital will be a fairly straight forward process that can be successfully completed without any advanced planning, regardless of the use of funds.
My own unofficial statistic on the subject of time and money is that over 80% of all business financing activities are unplanned events. What I mean by this is that the quest for capital typically is not started soon enough due to the misconception in society that capital funding will be easy to come by.
At the same time, I’m not saying it can’t be a fast and easy process, I’ve just never seen it, especially when there is a significant amount of financing involved.
Sure, you can get a piece of equipment financed and funded in 24 hours if all the conditions are in order, but that’s really just a personal financing model based on credit score, reported income, and personal net worth. For just about anything else, business financing is more complicated and takes time to locate and secure.
When I say an unplanned event, I basically mean that all aspects of a business project tend to be planned out and managed in steps except for the money part, which is basically assumed to be available when required, ergo an unplanned event.
And while it may seem logical to build out a business model and then look for capital, the opposite tends to be true. Instead of just working back from the market to take advantage of a business opportunity, a business also needs to work backwards from sources of capital to make sure that the resulting business model not only lines up with the market but also with the money.
By taking this extra step in the early days of planning, the business approach can be modified to make the overall opportunity more “finance-able” or more appealing to targeted sources of capital.
But this is a time versus money trade off. That is, should we spend all our time and money developing a “if we build it, the money will come” approach, or should we invest time, energy, and scarce resources trying to plan out the path to capital funding from the beginning only to potentially find out later that it was all unnecessary work when the capital ends up being readily available?
My vote is on the latter as I’ve seen way too many opportunities or financing requirements crash and burn because the deals or situations were not in a “finance-able” state for targeted lenders or investors to do anything with, or the money that was available was not sufficient and caused the business model and time lines to be altered, creating greater risk on the success of the overall project.
That’s the thing about the time and money relationship. While you may have something of value that can attract capital over time, can you survive until that day comes, or will you run out of time?
Selling A Business Can Be A Real Chicken And Egg Process
When Selling A Business, Which Comes First, The Deal Or The Dough?
Its late Friday afternoon and I’m getting a bit cute with my terminology. When I speak of dough here I mean the financing required to complete a business acquisition. When I speak of the deal, I’m talking about the purchase and sale agreement between the buyer and the seller.
One of the key reasons that business acquisition financing can be so tough to secure is because of the which comes first dilemma.
From the buyer and seller points of view, if they have a basic letter of intent signed up between them, then the assumption is that financing should be able to be secured before proceeding further.
From a prospective lender or investor point of view, until there is a binding purchase and sale agreement in place, there will not likely be a commitment for financing issued due to the fact that the source of financing a) doesn’t want to complete all its due diligence before an actual deal is binding and b) doesn’t know exactly what they’re financing until the final agreed upon terms and conditions of purchase and sale are known.
The buyer doesn’t want to spend money on due diligence unless he/she knows they can get financing. The buyer and seller together don’t want to pay their lawyers to hammer out an agreement of sale without knowing if the financing will work out.
The lender doesn’t want to commit time and resources to assessing the financing application until there is a completed deal.
In many cases, the deal goes nowhere as nobody wants to go first.
From the lender or investors point of view, I clearly understand where they are coming from. Yes, they can initially screen the deal and provide a term sheet outlining what they could potentially do if an agreement for sale was finalized and all the related due diligence supported a positive financing decision.
But to expect a commitment to fund prior to full review and the completion of a purchase and sale agreement is a tad bit unrealistic.
The resulting stand off goes nowhere and the deal is called off.
So how do you avoid destroying a perfectly good deal that, like most deals, requires some amount of outside financing?
First and foremost, its up to the buyer and seller to get comfortable with 1) the buyer’s ability to finance the deal and 2) the acquiring business’ ability to support and repay a financing facility.
Short of getting a commitment or even a straight answer from a prospective lender or investor, the next best thing is to talk to a business financing specialist and get a third party opinion of the likelihood that financing can be arranged.
If the buyer and seller don’t want to take this step, then they can commence to try and bang out a purchase and sale agreement and make it conditional on financing, pay their lawyers for their time, and hope it all works out.
The key here is that the onus is on both the buyer and seller to work together to get the deal done. Even if a lender were to go first, there could still be gaps in the financing requirements that need to be filled by a combination of the buyer and the seller, so their ongoing collaboration is going to be essential to create a win/win scenario that isn’t going to cost them an arm and a leg to figure out.
Equipment Leasing Can Save Cash | Small Business Cash flow Management
If You Have Good Credit, There Are Several Ways Equipment Leasing Can Save Cash
As 2009 draws to a close, cash flow management is still a high priority for most small businesses these days due to the ongoing impact of the current recessionary forces.
In order to preserve cash and get more purchasing power, here are some small business cash flow management tips to consider if you’re not already doing them.
Equipment Leasing. Now a days you can get equipment leases for just about anything over $1,000 in value. If you have good credit, you can secure some pretty attractive leasing rates and if you’re buying something that offers a manufacturer sponsored program, the financing costs can be extremely low.
You still have to crunch the numbers to see what comparable products are worth from other suppliers as its a common strategy to give you a great financing package and then jack up the price to offset what the seller is subsidizing on the equipment financing side. But in a recession, where sales are down, you may be surprised at the opportunities that exist for both a great purchase price and a great financing package. In some cases, it may even be cheaper than just paying in cash.
Ultimately, there is going to be a net cost for financing, likely, but if you’re taxable, there is a tax deduction to be had and when the interest rates at all time lows like they are right now, a small cost of financing that allows you to maximize your available cash is definitely something to consider.
Equipment leases offer other cash advantages as well, especially for businesses with good to great credit. In most cases, you will be able to buy assets for no money down except for one or two lease payments paid in advance. This high degree of leverage again conserves on valuable cash flow.
I’m not going to get into the operating versus capital lease discussion other than to say that an operating lease needs to provide some significant benefit to you because it will cost more per dollar financed than a capital lease. With a capital lease, you basically agree to purchase the asset at the end of the lease from the lease company and you agree to do this at the time the lease is entered into. Capital leases tend to provide you with the lowest cost financing options as there is no back end risk to the leasing company.
Additionally, regardless of your credit rating, equipment leasing defers the related sales tax associated with the purchase meaning that you only pay sales taxes on your lease payments when they come due versus having to pay 100% of the sales taxes at the time the asset was purchased in a cash transaction.
And if you get the chance to get a great deal by making a cash purchase, get the deal done, then go to an equipment leasing company, sell them the asset and take back a lease (sale and lease back).
Equipment financing companies will allow you to do this up to 6 months after purchase and they will even consider private sale transactions.
This way, if you have the available cash, you can negotiate hard and get the best deal without having to try and arrange financing at the same time. If you’re concerned about being able to qualify for credit after the fact, you can go and get pre-qualified for an equipment lease for the amount of money you’re looking to spend and the type of asset you want to acquire.
Equipment leasing can be a very effective cash flow saving strategy. To get the best use of this tool, make sure that you always crunch the numbers to determine the best approach to maximize both the cash flow savings and purchasing discounts.
Business Finance | Year End Reflection
Business Finance Goal Review For 2009 and 2010
If you’ve spent any amount of time on this blog, you’ll here me talk repeatedly about what I call the 80/20 of business finance which comes down to three things”
- Securing the capital the business requires when it requires it.
- Managing the cash flow of the business to meet operational needs and minimize costs.
- Continually working towards the exit strategy of the business and in the process making sure everything the business undertakes supports and enhances the long term value of the enterprise.
So in 2009, how did you do?
As a business manager and owner, did you stay at a strategic level and manage the finance elements of the business through these three focus areas.
Has the business improved in each of these areas over the course of the last 12 months? What about what lies ahead in 2010?
The December year end is a time for celebration in many parts of the world and for many businesses, its also a time of year end planning, next year planning, and overall performance measurement.
Just remember that to have the financial success your seeking, the business finance side of the business needs to be managed and kept in balance with the marketing side.
And to me, there is no better place to start increasing your returns and future probability of success than through getting more focused on the three things mentioned above.
Finance doesn’t have to be hard, but it does have to be directed. Leaving all the business financing decisions up to the bean counters is just asking for trouble.
The key is to identify the metrics of the business that everything summarizes into so that you can quickly understand the overall health of the patient without knowing the inner workings of each moving part.
I had a Brazilian boss for a year and a half during my time working for a large multinational company. Whether it was because he was Brazilian or a type triple AAA personality, I’m not sure, but he thought he knew everything about everything. As a marketing person by nature, finance was something he needed to learn to do his job.
So every month, we would sit down and I would produce one piece of paper with all the key metrics of the business, all the things we needed to measure to make sure that the three core elements of finance I have mentioned were intact and functioning properly.
We would sit there and debate each item… why this was up and why this was down. His goal was to show me in less than an hour each month that he knew more about our financial position than I did, and my goal was to survive the interogation.
But the process did serve a purpose. At least once a month, even at a high level, he took the time to zero in on business finance and see if everything was in balance and if it wasn’t, to identify the actions required to get things to where they needed to be.
My boss wasn’t the finance expert, I was (of course I never told him that). And he didn’t have to be. He needed to manage the overall business and stay at a strategic level. And that’s exactly what he did.