A concise blueprint for putting your best foot forward with prospective lenders* * *
If you were deciding how much gypsum board or steel tubing you needed to run your business, you wouldn't think of relying on your suppliers to give you that answer, would you? Nor, for that matter, would you invite your vendors to name the price you should pay. But in the minds of many chief executives, banking is somehow different. "You'd be surprised at how many intelligent company owners go to their bankers with hardly a clue about what they're looking for or what they need," says Graeme K. Howard Jr., founding partner of Howard, Lawson & Co., a Philadelphia investment-banking firm. The result: lenders end up with significantly more leverage over borrowers than they should have.
When businesses run into problems getting -- or renewing -- loans, the refrain you often hear is, "It's the banker's fault." But more often than you'd think, customers share responsibility for whatever difficulties occur. "Owners of small companies do a notoriously poor job of preparing themselves for the kinds of questions loan officers are going to have," notes Howard. "And they do almost nothing to manage the borrowing process."
A number of years back, Howard quizzed a bunch of lending officers about the mistakes companies make in seeking loans. From what he heard about their lack of preparation, he put together a simple, concise blueprint -- one that enables companies to put their best foot forward with prospective lenders. Howard calls it "The One-Page Loan Proposal," and he and his associates have successfully used it on behalf of clients for more than a decade.
The one-page loan proposal forces borrowers to think, well before their meetings with lenders, about what they want from a bank -- how much money they need, for how long, at what price, by when, and, naturally, how they'll pay the loan back. Because the proposal is in writing and to the point, it can serve as the agenda for conversations -- even as the first draft of the actual agreement. That isn't to say you'll get everything you ask for, but you'll be able to put your positions -- even your most sensitive ones -- out on the table with force. Once lenders have gone through the proposal, Howard recommends asking for an instant reaction. Will they propose to their committees that the loan be made? If not, why not?
What do lenders make of this approach? "Many of those we deal with love it," says Howard, "because it takes them out of the guessing business and lets them focus on actual terms of the deal. They like lending to people who know how to borrow. And the tougher the market, the more powerful it is."
In the following article, Bruce Feldman, founder and CEO of Home Health Corp. of America Inc., a $23-million provider of home health services and equipment, and Patrick Hurley, a general partner at Howard, Lawson who works directly with Home Health, explain how the one-page proposal works. Home Health, based in Bryn Mawr, Pa., used the approach this past winter to renew its two-year credit line with Bank & Trust Co. of Old York Road, in Willow Grove, Pa.
1. Set Things in Motion By putting a date on the proposal, says Feldman, "we communicated the idea that we were on a schedule." A date also suggests you've created the proposal specifically for the lender you're showing it to that day, even if you're presenting it (with other dates) to others.
2. Who Gets the Money? If your company does business under several names, it's a good idea to clarify immediately which unit is seeking the loan. Usually, says Hurley, the entity with the strongest credit is the natural borrower. In Feldman's case, there were 13 wholly owned subsidiaries, "but everything was controlled by the parent," he explains. For private-company owners, this is the place to establish your intention to borrow for the business, as opposed to getting a personal loan.
3. Speak Their Language "The proposal should show bankers that you know the terminology of their business," Feldman says. "We knew we needed money to fund the timing of accounts receivable and that we'd need the funds on an ongoing basis. So we asked for a line of credit for which we'd pay interest only, as opposed to a term loan that would amortize on a set schedule. If we had asked for a term loan to finance our receivables, the lender would have said, 'You don't know what you're talking about.' "
4A. Credibility is Key "If you ask for too much money, you'll seem unreasonable," Hurley notes. "But if you ask for too little, you may run into a different problem. Bankers don't like to go back to their loan committees in the middle of the year. It makes them look bad, as if the company and its management don't know what they're doing."
4B. Feldman's request for $1.4 million comes right off a more detailed business plan he prepared. Mostly, he says, it reflects what he thinks he needs to finance the business between the time Home Health performs services (and generates receivables) and when it gets paid. "Because of the industry we're in and the way third-party health-care payments work, we need to finance our receivables for about 90 days." Feldman included a "rainy-day" figure of about $200,000 in the $1.4-million proposal. "In the event that our computer breaks down or we run into a slowdown in third-party payments, we didn't want to have to go running to our lending officer. We also wanted to allow a little room for growth."
5. Longer Is Better "If you can help it, you don't want to go through the process of renewing the loan agreement every year," says Feldman. "Our objective was to set up the credit line in such a way that we could depend on it. We needed it to run the business."
"Spelling out the term of the loan," notes Hurley, "is a way to remind the bankers that the company is the customer. If bankers can ask for prepayment penalties on term loans, companies should feel comfortable asking for two years on their credit lines."
6. Set a Deadline Setting a closing date, explains Feldman, communicates that you want the matter resolved. "It gives the company a bit of a negotiating edge. It's a way of saying, 'If you're not interested, tell us. There are other banks willing and able to work within this schedule.' "
How much time should you give? When switching banks, Hurley says, 60 days should be plenty. "Renewals often take less time."
7. Reveal Your Plans If you know you need to purchase inventory or buy equipment on a certain schedule, include the amounts and dates in the proposal. For instance, when Feldman did his first proposal like this one, in August 1988, he indicated that he needed to take down $500,000 right away to pay off an old loan at his former bank. "It's a way to indicate you understand your business," he says. In his more recent proposal, he points out, it was harder to be specific. "Because it's a working-capital line, it's much more difficult to predict exactly when we'll need the money."
8. Explain What's of Value "Because we're a service business, our only real assets are our accounts receivable and a small amount of inventory," Feldman notes. Normally, bankers want to set precise lending formulas for receivables -- x% of the value of receivables less than y days old. But Feldman was able to get a little more flexibility by educating the lenders about his business.
"Because our payment cycle is unusually long, we didn't want the bank to lay down a formula that wouldn't allow receivables more than 90 days old. We knew we'd be in default on that from time to time. So I said, 'At any given point, we'll have about $3 million in receivables. Here they are. We promise not to pledge them to anyone else.' We had all sorts of documentation to show them, and the bank went along with it."
9. Name a Price Rather than having the banker suggest a rate, you're better off broaching the sensitive matter of loan pricing in writing. "If you put it in black and white," Hurley says, "the banker will have to respond specifically to your suggestion. This is an opportunity to convey the level of risk you think you represent." Although you needn't be too shy about the rate you ask for, Feldman cautions against being too aggressive: "Even if you think you can do better, it's smart to establish some goodwill."
10. Manage Lender Expectations To make the lender comfortable it helps to be direct about how the new financing will work within your business and what kind of repayment schedule is realistic. "As long as we continue growing, we don't intend to pay down the line in any significant way," explains Feldman. "The bank understands that at the end of two years we'll either renew the loan with it or find a new lender."
11. Hold That Guarantee Ultimately, you may need to provide a personal guarantee to get the other terms you want. Feldman, in fact, ended up giving the bank a guarantee and a lien on his house. But don't feel compelled to grant the guarantee up front, cautions Hurley. "You really want the bank to first evaluate your proposal without the guarantee, so you can get a sense of whether it's worthwhile to provide one." If you do end up guaranteeing the loan, Hurley advises setting up conditions for revising the terms of the guarantee based on the company's performance.
12. How Will You Pay the Money Back? "With a term loan, you might envision selling some assets or remortgaging property. If you plan to generate cash from operations to pay off the loan, you need to show how that will happen," Hurley says.
13. Backup Plans What happens in a pinch? Bankers want to know that you've thought about it. In Home Health's case, paying off the loan with cash from operations seemed out of the question as long as the company was growing, says Feldman. "The only way we could see paying it off was to renew the loan at the end of two years. Or we'll have to raise some equity, privately or in a public offering."
1. Date: November 12, 1990
2. Borrower: Home Health Corporation of America, Inc.
3. Type of Loan: Line of credit
4A. Amount: $1,400,000
4B. Use of proceeds: Working capital for funding growth
5. Term: Two years
6. Closing Date: January 11, 1991
7. Takedown at closing: As needed
8. Collateral: Accounts receivable and inventory, but not formula-based; see collateral analysis
9. Rate Prime + 1%
10. Repayment schedule: Repayment of balance on January 11, 1993; interest only -- monthly
11. Guarantee: None
12. Source of funds for repayment: Cash flow in excess of cash required for operations or renewal of loan
13. Alternative source of Loan from commercial finance company secured by accounts receivable, funds for repayment: inventory and equipment; private equity placement; initial public offering of the company's common stock