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Hello,
Liquidity problems are always challenging, particularly when an existing lender has said "Enough!" What often frustrates business owners and operators is lining up additional financing and then having the existing lender go silent. The solution is to address the lender's needs as well as your own.
I appreciate your comments. Simply reply to this email to send them to me.
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Regards, Charlie Goodrich Founder and Principal Goodrich & Associates |
Why Your Banker Doesn't Return Your Calls... and What To Do About It
I often receive calls from prospects with the same complaint: "I have a new lender that is willing to lend me money that will solve my liquidity problems. But my existing bank won't return my calls. What gives?" In short, it's because you didn't call for pay off instructions. In other words, in these situations the new lender will give you money that you will use to pay off suppliers and buy materials. This lender probably wants liens on business assets, the materials you will purchase and the invoices from the resulting shipments, and maybe more. When you call your existing bank, on the other hand, not only are you not proposing to pay off your outstanding debt, you want them to share the collateral with someone else. Why would the old lender return such a call? How to solve the impasse? Tell the old lender, in a credible manner, about your plans: - Figure out exactly how the existing lender will be repaid. How will the cash flow from the material purchases pay down the existing loan? Is more capital needed than just the new loan?
- Show supporting projections from a credible outsider that pay down the existing loan. "Credible outsider" means a consultant versed in these matters - not you or your staff.
- Retain an attorney that is versed in the legal issues of insolvency and debtor/creditor concerns. Rarely is this the same attorney that helped you close the loan. (A former workout officer told me that he can tell how a meeting with borrowers is going to go based on whether they bring in the same legal counsel they have always used or one who specializes in these situations and knows the drill.)
Here are some issues you may encounter:- Liquidity is projected to be too tight to pay down the loan. In this case, more funding is needed. This may come from personal assets or from other investors who will either put in equity or subordinated debt with substantial equity kickers.
- The existing lender won't give up collateral to the new lender. After all, why should they? One solution is to use new financing that brings in new collateral.
Purchase order financing and its variations are one such form of financing. Here, a lender advances funds to a supplier, so you get inventory. The new lender gets a lien on these materials and a lien on the resulting accounts receivable. These are all assets that don't yet exist, so the existing lender is allowing liens on assets new to the company; there will also be some cash flow from the A/R to pay down the lender.
Recently, one client of mine employed purchase order financing in exactly this manner. They had no liquidity and its lender wouldn't return calls. When their new attorney called with a repayment plan for the lender, things began to move forward and my client entered into an agreement that allowed it to buy parts that are converted to finished high tech goods. They entered into a forbearance agreement with their existing lender and also got new funding. The new lender entered into an inter-creditor agreement with the existing lender, so all parties were protected.
- The use of personal assets is considered. In short, don't put in more personal assets or encumber more personal liability unless you have a credible plan to pay yourself back. "Credible" is the key word here; business owners are rarely objective in this situation and involving an outsider in developing projections is critical. (Lenders know you aren't objective; that's why they ask for the funds and collateral.) Consider keeping personal assets as a source of last minute funding, should your plan fall short. Or, use the personal assets if the plan goes well to secure a new loan to take out the old lender completely.
One of my clients, the owner of a scrap metal company, pledged more assets to the bank (prior to my arrival). The company was ultimately sold to a customer for slightly more than what was owed to the bank, but well short of what was needed to pay everyone else. Because these assets had been exposed in the forbearance agreement, the creditors committee took the owner's Chicago condo and prized antique car collection to help pay unsecured creditors.
A few more pointers:- When developing projections with the new money, be realistic regarding how fast your operations can convert raw materials to shipments and then to cash.
- Don't gloss over tight liquidity spots in the cash flow projections. Yes, you may get past short term hurdles for a while by purchasing less materials. But that means less sales, less collateral and ultimately less cash. And, likely missing a repayment.
- Review the projections with operations. I have seen lots of financial projections done in a void, disconnected from operational reality.
- If the numbers don't support repayment, it is time to look at more painful options. This may include selling the company, converting some of the debt into equity, or more. Don't kid yourself - traditional lenders will only enter into a forbearance agreement that won't work as a means to take control of the company and/or situation. That is rare and a situation you want to avoid.
Several years ago, I was involved in one such ugly bankruptcy. A syndicate of banks lent over $85MM to a company whose management went on to commit bank fraud. The lead bank was a regional player in way over its head. The other banks in the syndicate filed an involuntary bankruptcy petition in Delaware to take matters under control. These other banks would only agree to a cash collateral order (a sort of bankruptcy forbearance agreement) on projections that were unrealistic. Of course the company couldn't make the projections and that allowed these other lenders to take control of the case and force a quick liquidation, which is what they wanted all along.
Other options include unencumbered assets, such as equipment, receivables that are ineligible for the bank to lend on and real estate you might own that is used by the business, but is legally separate.
- Consider what the business will look like financially once the original lender is repaid. Will it still be undercapitalized and liquidity strained? If so, bring in the capital now and start using it.
- Consider asking your existing lender to do what the new lender is willing to do. The old lender may or may not be willing, but if you don't ask, you won't get. And remember, by extending more credit - when someone else has shown a willingness to do the same - the old lender is grabbing more assets and retaining more control. So they do have some incentives.
Liquidity problems are always challenging, particularly when an existing lender has said "Enough!" Fortunately, and as is often the case with business finance, these problems can be met and overcome with a clear head, expert outside advice and a well thought out plan. Help your old lender meet its own needs - for both information and security - and you'll improve the likelihood of satisfying yours.
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Please share with your colleagues
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Heard on the Street
Thank the financial crisis for today's partisan politics. That is the headline of Amir Sufi's online article in the Chicago Booth Review. Amir is the Bruce Lindsay Professor of Economics and Public Policy at the University of Chicago's Booth Graduate School of Business. Read it here.
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About Us
Goodrich & Associates is a management consulting firm. We specialize in helping our business clients solve urgent liquidity problems. Our Founder and Principal, Charlie Goodrich, holds an MBA in Finance from the University of Chicago and a Bachelor's Degree in Economics from the University of Virginia, and has over 30 years experience in this area.
To ensure that you continue to receive emails from us, please add [email protected] to your address book today. Goodrich & Associates respects your privacy. We do not sell, rent, or share your information with anybody. Copyright © 2016 Goodrich & Associates LLC. All rights reserved. For more on Goodrich & Associates and the services we offer, click here.Newsletter developed by Blue Penguin Development |
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