If you dealt with banks long enough, you've probably heard that the best time to go to them is when you don't really need the money.? That's actually not to far off of the truth, depending on what your definition of "need the money is."? Its also relevant to note that if you owe your bank $500,000 that's? your problem.? If you owe them $500 million, that's their problem.??
Your typical bank standards have changed significantly from 20 years ago.? By and large, banks don't invest, they loan.? And they loan only when they are fully secured.? In other words, they don't really take any risk.? Actually, they don't like to take any risk at all.? They do take fraud risk.? Meaning, if you want to cheat your bank, you can.? Not a good idea, but its possible.? If you are a start up, in the pre-revenue stage, or aren't profitable, don't expect too much from a bank, certainly not the main lending department.? However, its worth keeping in mind that some bank do have start up loans and so forth that are often government programs developed to spur small businesses.? At the very least, you can call your bank and ask to be put in touch with the person or department that handles their small business division.??
When we say that banks don't take any risk, that means that they only lend against collateral, against assets.? Assets are either land, inventory, accounts receivable, work in progress, equipment, and so on.? And they only lend against a certain value of the those assets.? They might lend up to 75% of your accounts receivable and 50% of your inventory. That way,? they know that if your company suddenly goes under, they just collect the receivables, liquidate the inventory, and pay themselves back.??
Generally speaking, the process for bank financing is going to go something like this:
- Development of the bank package.? Make this package a clear and concise as possible, outlining what the business does, the management team, the track record, how much you want to borrow and why, and what kind of security you have.
- Contact banks and introduce the opportunity.?
- Presentation of the package.? Do this in person.
- Verbal follow up with the bank to answer any questions that may have risen as they went through your information.?
- If interested in the opportunity, the bank will prepare a term sheet outlining what they will consider offering to you.? Some banks issue a discussion paper with is often just a more informal term sheet to make sure they are on the right track with what you are looking for.? The general parameters of the term sheet will be amount, term, interest rate, security, and closing conditions.?
- The bank is going to ask you to sign their term sheet and pay them a due diligence fee.? This fee is usually $15,000 or $40,000 on amounts over $5 million and $3,000 to $15,000 on amounts less than $5,000.? This amount is somewhat negotiable, but the banks want to know that you are serious about taking their money once they do their due diligence and devote resources to your company.? Make sure that in the term sheet it states that if the don't issue a commitment letter, the money is refunded.?
- The bank starts their due diligence.? Although it may seem like they are asking for a bunch of information, it is miniscule in comparison to other types of financing.? They'll want your incorporation papers, any minutes, your lease contracts, a list of your suppliers, a capital asset listing, and so on.? If you are talking to your current bank, they should have all of this information of course, and they'll be more concerned about the growth opportunity than historical information.? This process might take them 10 days from the time they get the information.?
- Once their due diligence is complete, the bank will issue a commitment letter.? If their due diligence has gone smoothly, the commitment letter will be the same as the term sheet. If they've uncovered a few things that were different than what they were expecting, you might find a few changes in there.??
- The bank is going to ask you sign their commitment letter, and in some cases, give them a commitment fee.? Generally, try to negotiate this down, or suggest that you pay it out of the proceeds of their financing.? The commitment fee is designed to cover their legal costs.?
- The bank will then start its legal process.? They'll get in touch with your lawyer, file their security agreements, and go through the closing process.??
The key is to present the information in the way the bank wants to see it.? That makes your account manager's job a lot easier when she or he has to go back and talk to his credit department.?
It's never a bad idea to use an advisor to help you though this stage.? It might sounds like something you can do yourself, and it probably is, but you time might better spent running the business.?
Scott Larson is a Director at Redgate Capital, .? Redgate Capital assists companies in their financing efforts.? They have recently launched ?which assists entrepreneurs who want to buy a business or sell a business.
