April 14 2009 by C.J. Prince
In February, Punxsutawney Phil, the famous prognosticating groundhog, predicted six more weeks of gloomy winter after seeing his shadow up at Gobbler’s Knob. If only that were true for the frozen financial tundra. Thanks to locked-up credit markets, plunging profits and a deepening recession, companies can expect a much longer period of brutal cold through 2009.
Without easy access to bank credit lines, CEOs of companies that were not already well-capitalized must get resourceful about finding the necessary cash to operate, whether they need the funds to buy additional inventory, open a new facility or just make payroll. But while access to capital might not exactly be quick and easy, there are a number of ways for solid mid-size companies to ease cash flow even in the current financial freeze.
- Find the right lender. Lending has indeed dried up at some big banks, but not all have turned off the spigots. “The larger institutions that got very involved in mortgage-backed securities are feeling the pain much more than your neighborhood banks,” says Ken Csaplar, managing director of Trenwith Securities, a boutique investment-banking firm that advises middle-market companies. In fact, banks that did not play in the subprime space have plenty of money to lend to credit-worthy businesses that can show not only a solid business plan for growth, but a clear strategy for achieving that growth.
David Baule, CEO of Core180, a telecommunications network integrator based in Hoboken, N.J., was able to secure a $2.5 million line of credit from Silicon Valley Bank in November, when many big banks were busy lowering or rescinding their clients’ credit lines. The Santa Clara, Calif., bank, with which Baule had been talking for close to a year, was able to see a consistent line of growth-more than 400 percent in 2008 alone-and strategies for both best- and worst-case scenarios for 2009. “It’s about showing you can execute your goals,” he says. “And it’s really important that the bank understands your business.” Baule plans to draw down the line as needed for growth, spending on recruiting talent, systems development and platform expansion. “It really provides a cushion as we go after different markets,” he adds.
Brock Blake, CEO of Salt Lake City-based Grow America, which helps small, growing companies find funding, notes that a little bit of homework can go a long way when approaching a new bank, as many lenders return to their comfort zones and go after specific types of loans. “Some banks are focusing on equipment, others on early-stage SBA loans, while other banks focus on working capital loans,” says Blake. “It’s not that there’s no money to lend-there is money to lend, but you have to be more strategic about how you approach and who you approach.”
That said, Csaplar also advises fully exploring available options with your existing bank before switching, since many banks are focusing on holding on to their current clients. “Moving from the party you know to the party you don’t can be foolhardy unless there’s some really good reason for it,” he says, adding that the banker who has known you for five years, and witnessed your healthy track record prior to the recession, will be more likely to be sympathetic if you fall short one month. “You will likely need some of that leeway,” he notes.
- Use your assets. Loans secured by a company’s assets, such as inventory, accounts receivables and equipment, have been soaring since the credit markets seized. In its most recent survey of asset-based lenders in November, the Commercial Finance Association reported a 17.1 percent increase in new credit commitments over second quarter 2008. That climb came on the heels of a 16.2 percent increase over first quarter. The rise isn’t surprising given the credit crisis, but Csaplar notes that the past five to seven years saw an imprudent rush to cash-flow lending, and away from the balance sheet. With lenders now seeking surer footing, he says, “the pendulum is swinging back.” With an asset-based loan or line of credit, a company with healthy receivables, for example, can get temporary, fast access to a lumpsum percentage of the value of the receivables, which it then repays when the receivables are paid in full. Because the loan is based on the value of a known quantity, the asset used as collateral, lenders can afford to overlook borrowers’ creditworthiness and can make loans to a wider swath of companies.
“Because we are collateral focused, we tend to see things differently than capital providers who focus on enterprise value and cash flow as the primary source of repayment,” says Bob Arth, head of the Eastern Division of Bank of America Business, a major asset-based lender that has seen an uptick in deals recently. “Our product typically brings businesses more flexibility and liquidity than is afforded in the cash-flow marketplace.”
Bank of America makes asset-based loans, ranging from $5 million up to $2 billion and even higher, structured as revolving lines of credit with the borrowing base calculated at between 70 and 85 percent of accounts receivable and up to 65 percent of inventory. The borrower makes interest payments (typically 1–2 percentage points above prime) and its borrowing power expands and shrinks with the value of assets.
On the downside, the loans are more expensive than they had been; with less competition from cash-flow lenders, asset-based lenders can afford to be pickier about the quality of receivables and bolder about pricing.
Barter is Back
Businesses struggling to hold onto precious cash may find a source of currency right on their own ware house shelves. Bartering, that age-old commerce tool, is back in fashion, and it’s allowing companies to use their excess products or unbilled hours to make purchases they would normally need cash for. “Right now, you have a lot of people sitting on inventory, but they don’t have cash to buy, so this becomes pretty interesting,” says Bob Bagga, CEO of BizXchange, or BizX, a private barter exchange company that does business in North America and the Gulf Cooperation Council states.
BizX members on the exchange sell their goods or services for BizX “dollars,” which they accrue and can use to purchase anything from hotel rooms to office equipment to accounting services from other companies on the exchange. “The easiest way to look at us is as just another method of payment,” says Bagga. “If you’re sitting on inventory, it’s worth less and less every day. If you’re sitting with capacity, whether you’re a hotel, airline or a media company, the product is aging or in some cases, it’s perishable.” Bagga adds that barter exchanges also introduce companies, via free promotion and marketing, to new markets and clients they would not otherwise have had; satisfied customers are likely to return to the company even when they have to pay cash for that product. Companies should not become overly reliant on barter, however, since exchanges take a piece of every transaction, typically around 6 percent on each side. Most experts recommend limiting barter to no more than 5 to 15 percent of sales, to avoid cannibalizing the cash business. But used wisely, it is a clever finance tool to help companies keep their bottom lines in black.
“For a few years now, they’ve had to really cut rates to get deals,” says Patrick McNally, lead partner of the corporate finance consulting group of Chicago-based accounting firm Blackman Kallick. “They’re having a field day now because the market has moved back in their favor.”
- Find a friendly VC. Thanks to a dramatic slowdown in M&A and venture- backed IPOs at a 30-year low, venture capital investment hasn’t exactly been booming. But that doesn’t mean they’re not interested in new opportunities, says Alan Hall, chairman of Grow America. “Venture capitalists are out looking for deals every day. They have so much money out there available to them,” he says. What they’re looking for are companies with solid management teams in a position to weather ’09 and ’10. “There is plenty of money available for companies that can show they have a viable future and can succeed, and will be able to increase their sales.”
Court Cunningham can attest to that. In January, the founder and CEO of Yodle, a four-year-old New York-based company that helps local businesses advertise more efficiently on the web, secured $10 million in Series C financing, with two new investors climbing on board. Though the VCs were a bit more skeptical and rigorous about due diligence this round than they were during the series B the company did 15 months earlier, they were reassured by Yodle’s demonstrated growth-700 percent year-over-year revenue growth in 2008 and 5,000 customers by end of ’08, up from 125 in ’06.
Of course, not every company can boast such dramatic growth, particularly if they’re more established or are in more mature markets. But Cunningham was also strategic about his search for VC money. About six months before he knew he’d need the capital, he began meeting with potential investors, introducing them to the company and laying out his goals for the future so that later he could go back and show he’d delivered. He also made sure to keep the list of firms he approached small, between five and 10, to reduce the amount of due diligence work, and he kept the timeline tight as well in order to keep the process competitive. “You want to do an initial presentation to each of them the same week so that everyone is in sync, roughly,” says Cunningham. “The end result is that with a little bit of luck you can get two term sheets, and that’s where the leverage shifts from the VCs to the company.” With a more favorable term sheet in hand, Cunningham was able to go back to another investor and ask for better terms.
He notes that due diligence has gotten quite a bit steeper. “Everyone wants to do customer calls, which they didn’t before. And it’s just a greater level of detail-everyone wants to slice and dice your operational data in different ways, really trying to analyze the key drivers of the business from every perspective.” They want to see forecasting from every direction, and particularly management’s plan for tough times. For Cunningham, that wasn’t a problem. “This is the first year we just didn’t do an upside case,” he says. “We had a base case, a downside case and an ugly case.”
- Sell the building. For companies that own real estate, sale-leasebacks can free up much-needed cash. In the typical deal, a company that owns either an office building, manufacturing facility or retail site would sell the facility and then lease it back for a period of time. Though they pay monthly rental income, they get a lump sum up front for the property, says David Steinwedell, managing partner of AIC Ventures, an Austin, Tex.-based investment fund manager providing alternative finance solutions to middle-market companies. The longer the lease term a company is willing to sign on to, the better the price they’re likely to get on the property, Steinwedell explains. “We’re able to pay more for the property because we have a longer-term income stream.” There may also be tax advantages to getting a lower price for the property, with a lower lease fee as a bonus. “If the company has owned the property for a while, it has depreciated, so if the company wants to avoid having a capital gains tax issue, they’ll sell for a price that might be a little less than market value to avoid the tax,” he says.
Because companies like AIC have multiple funds and access to equity and capital, they can typically close deals quickly. “We can do transactions in 45 or 60 days. We don’t have to get third-party approval,” says Steinwedell, noting that transaction size ranges anywhere from $3 million to $40 million. In evaluating deals, AIC generally looks for companies that are cash-flow positive, but they will go back several years to see if recent trouble is anomalous.
“We’ve done a number of deals with companies who got shellacked on the expense side, so we look not only in the last year but a period of years to see what their prospects are, basis for revenue, what kind of controls on their expense side, and we spend a lot of time talking to senior management,” he says. “We make a judgment based on their capacity to deal with the economy we’re in.”
Other options for strapped companies include selling off non-core but viable pieces of the business that are burning too much cash, as Citigroup opted to begin doing. “To the extent that you can offload any of those areas that are unprofitable or are distracting you, that would be helpful,” says Bob Strasser, partner with BDO Seidman’s technology practice. And if you can’t sell them, he adds, shutter them before they drag the rest of the company down with them.
Before seeking any additional debt, make sure you’ve explored every opportunity for cost reduction, says McNally, who observes that CEOs are sometimes reluctant to make the cuts they need to survive, opting instead to borrow. “Those who were not overleveraged prior to this, and aren’t now, and can cut costs and face facts in a timely fashion, they are going to come out a heck of a lot better when this is over.”