When bank financing's a no-go
Some 61 percent of business respondents believe the current business financing environment is restricting their growth opportunities and 72 percent find it difficult to raise new business financing, according to the Pepperdine Private Capital Markets Project’s Quarterly Survey Report for the third quarter 2012. Only 42 percent of those who applied for bank loans were successful.
What if your company is one of the 58 percent of businesses that could not get bank financing? If new capital is vital to your growth plans, whether organic or by acquisition, you may need to pursue alternative avenues for debt capital.
The alternative that many companies resort to first is factoring, which is essentially the sale of receivables to a finance company that will pay you a discounted price for the receivables that they consider eligible for purchase. This can be a very expensive option, costing upwards of 20 percent, and can become problematic to manage. Despite the costs and other issues this is a viable solution for some companies, especially smaller less established businesses.
For companies with somewhat larger average receivables that may be missing some criteria to get a bank loan, there are private banking companies that issue lines of credit against receivables. This type of financing operates very much like a typical bank line of credit. Money is advanced against receivables (and possibly inventory) and paid off when the receivables are collected. The receivables are never sold and customers make all payments to the company. Because these lenders focus on companies that have some blemishes (losses, lack of history, etc.) the price is higher than bank financing but lower than factoring.
There are other types of asset based financing to cover equipment and property. These are generally structure as term loans and the amount of capital available depends largely on the type of property involved. If the company already owns real estate or equipment and is in need of capital a sale-leaseback transaction might be worth considering.
The debt financing covered so far is all fairly structured and dependent on having the available collateral to cover the loan amount. For companies that need more capital than can be made available under these loans, mezzanine debt could be a solution. The typical mezzanine loan is in a second or junior position to the company’s existing debt.
Because of the higher risk profile, this type of debt is more costly. The mezzanine lender’s return usually comes from a combination of a coupon rate and some form of equity participation, most often warrants. There are a number of lenders that will provide both the senior and mezzanine debt or structure it all as one loan with a blended rate. Mezzanine lenders typically look at cash flow and growth as criteria for consideration.
If you are one of the many companies that have strong growth prospects but are not currently eligible for traditional bank financing, there may be other financing solutions available. These solutions are more costly than bank financing but can provide the capital necessary to grow. You might be able to use one of these alternatives in the short term until the company is in a position to access less costly bank financing.