Short on Cash? Get a Bank Loan?

Cash (& bank credit) are kings in times like these. If credit is tight, your business needs money, customers are slow to pay and bills are piling up, then get and preserve cash.

It's a tough time to be in business.  We read that fewer people are spending, there is less disposable income and getting a loan is tough. Perhaps revenues are down, cash is dwindling and the economy is still lackluster.

It's time for a reality check.  They come in many forms: check register balances, stern talks with CPAs, bankers, and significant others. But is everything revealed in the numbers? It is hard to deny what financial statements tell business owners. If there is a loss in any period, we probably already know it from cash flow issues such as vendors waiting longer than usual for payment from us, or our Invoices getting paid slowly by our customers. So, what to do if cash is really tight?

We have many options ranging from the least expensive and restrictive to the most" self-funding, friends' and family loans, bank loans, Angel investors, VCs and the mother of them all, IPO. For now, we'll assume you already have your own and some friends and family money in your business, so today let's look at a bank loan.

First off, we're all in this together. What affects those at the top eventually trickles down to those of us closer to sea level.  When the Fed Rate is close to 0% as it is now, that is the best possible rate for large institutions to lend money between themselves.  At such a time, it follows that our lending rates should be low too.  We are "riskier" borrowers (a debatable topic considering recent events) so we have to pay a premium to the Fed rate bringing our bank borrowing rate to Prime (which is 3.25%) plus a point or so.

Banks have become much stricter in their qualification process of borrowers as a result of the mortgage mess.  As a small or medium-sized business, you will almost certainly be asked for a 'personal guaranty'. That means that even though you are funding a business that might be incorporated, something you've done to specifically separate business from personal, the bank will still ask you to sign personally to let them use your personal assets to settle any debt if you have a business inability to pay.  I always encourage business owners to ask not to sign this and the banks rarely comply.  Especially today, banks want even more collateral (separate personal real estate attachments) in addition to personal guarantees for businesses that look like they are losing revenues.

Before you commit yourself to borrowing money, assess whether your Sales slump is due to reduced, temporary consumer spending or if this is an ongoing trend in your business that signals an irresolvable business issue.  The Fed chairman tells us that, "Financial markets remain quite strained and credit conditions tight".  That means that even if you can borrow money today, you may not be able the next time you soon need it.  And your cash shortfalls may not be over.  It's important to know the root cause of this instability.  You may be too close to it to even see it.  Ask others who have that insight.  There are marketers, coaches, business consultants and other informed counselors who can help you see the forest through the trees.  You certainly don't want to put good money in after bad in this environment.  It hurts to cut your losses and move on but if you get that message repeatedly, do it.  You may be saving more than just your business.

If you have given your business model the critical eye and you can honestly say you're just hit with the economic woes of today, then get that temporary financing loan. If the bank gives it with a fair rate, take it.  Knowing you may not get another shot to go back to the well, spend the proceeds thoughtfully.  This means follow your budget - a topic for another time.

Valuation Obsession

As a Business Consultant to small companies (2-200 employees), I often come across the owner dilemma of fading interest in their venture and a desire to leave the business. But then what? Who takes the reigns? Who is willing to buy the venture? And my God, at what price?

I feel like I have hit paydirt with a combo software that has come to market: webKPI with Fintel financial analysis. It is a web application that is so easy, anyone could use it. Now, anyone might not understand what it's telling you. For that, I'd suggest a professional business advisor to interpret the results. But here's how it goes:

Load up a QuickBooks file (P&L and Bal Sheet) to the webKPI on-line application. This of course, assumes you've already purchased the product. You can then see sooooo many things like WHAT YOUR COMPANY IS WORTH for starters. Ok, that should have been the grand finale but since it is my lead-off topic and my great obsession in life to give small business owners a shot at getting true value for their businesses at sale time, I can't help myself. So there it is: a dashboard of financial metrics not the least of which is a moment-by-moment valuation of a business. How do you like them apples? It is often said to calculate a valuation is part art, part science. Fine, but there's a LOT of math and this program cranks that out in seconds. I have done valuations by hand many times. They take a long time even with great Excel models. Each company is different and adjustments have to be made. Overall, the great effort is in the calculations and this program does it quickly and accurately. I am so excited this product exists. I will use it in my business consulting practice as well as tell as many people as possible about it. Of course, I am a business person so I have made a deal with the software makers who are new to selling their product that if I make a sale I get a commission. I'd be dumb not to, no?

Selling a Business - Private Equity? Investment Bank?

In my professional networking I recently participated in a "Speed Mentoring" meeting. Sounded perfect for me. With my short attention span and inquisitive nature, 10 minutes of conversation each with an investment banker, a private equity partner, a forensic accounting and trial expert witness and a VP of an asset management company was perfect. I learned more in an hour of what I have needed to know than I have been able to garner in years. For example, in follow-up conversations I learned that both the IB and the PE firms would not consider my client with almost $10M in revenues and $500k annual Free Cash Flow (FCF). Rather, they were looking for candidates much larger than those I know who want to sell or finance growth. The IB only considers companies with $25-100M in gross revenues. The PE partner looks for companies with EBITDA of $10-100M. Interestingly, in the 15+ years that the PE firm has been doing deals, only a handful have been within a 2-hour radius of the home office here in the Bay Area. (Their specialty is not high or bio tech.)

I concluded that a business that has grown its revenues to $10M is still small time these days. The IB'er suggested any buy-out or investment deal could be done with a good business transaction attorney. The timeline for closing an IB deal is about 6 months and the fees are about $500k. In other words, for small companies there is not enough in potential fees to have savvy, financial, MBA types work on the deal; just get the deal done, whatever it's sold for, and document it properly by a lawyer. That surprised me. I also felt sad because the small business owner might know how to run and grow their business but often does not know how to truly value their company and as a result might sell at far less than full value.

For small businesses (yes, $10M in revenues is small), that tells me that their capital needs are limited to the usual list of friends & family, angel investors, and banks. We all know banks don't give money without collateral so venture money for these businesses is quite limited.

So, about the idea of selling a business, of cashing out, well, if a buyer is ID'd then I would suggest working with them to agree on the best terms because other avenues for exiting are few. (A bird in the hand is worth 2 in the bush.) However you can, get a proper valuation done. Even if it costs $10k it might radically change your perception of the sale price.

If I come across more realistic ideas for selling "small" businesses I'll gladly share them.

Valuation for Restoration Hardware Buy-Out

I see on the front page of the SF Chronicle Business section that an East Coast private Equity firm,Catterton Partners of Greenwich, CN is buying Marin-based Restoration Hardware for $267M.
http://www.sfgate.com/cgi-bin/article.cgi?file=/c/a/2007/11/09/BUCFT8TDC.DTL&type=business
The stock almost doubled on the news but let's take a look at the Free Cash Flow (FCF), at least to the extent that we have information (and time). "Last year, it earned $3 million on revenue of $713 million; in 2005 it lost $29 million on $582 million in revenue", the Chron reported. That is a 0.4% Net Income return on Sales. Not so impressive to me. If I owned the company and that was the return I would be having serious sit-downs with management. And that was the good year. Those returns are a little shocking to me since every time I've ever bought anything at R.H. I have paid top dollar so were is the company spending? On the millions of catalogues? I get 3 each time they mail them out. (= waste) They speculate that while 1/3 of their business is mailorder now it will grow to 1/2. No small feat in growth objectives. I will add that RH does carry quality product lines. But what about FCF? Net Income needs certain add-backs like Depreciation, Amortization and other non-cash outlays. Unless they have huge D/A charges, that will not add much cash. Doing reverse math, how much FCF/year should $267M buy you? Well, if you just put the money in the bank you could make 5.5% or $14.6M. The 30-year "long bond" (Tsy) yields about 4.75% or $12.68M per year and that is the "risk-free rate". So what rabbit will RH pull out of their hat to beat that? Certainly with a very leveraged deal (50%) there is less cash spent for the PE firm, less FCF that must fall out the bottom, and enough cash to meet interest payments. But I think RH should take the deal and run to the bank. (They are saying they have until 12/13/07 to solicit bids and must pay $10.68M termination fee if they bow out of this deal.) They got a very good price here. Take it.

Interestingly on the strategic front "Catterton has $2 billion invested in what it calls "the middle-market consumer sector.It was one of two private-equity firms buying Outback Steakhouse's parent firm earlier this year. Other holdings include Brach's Confections Inc., P.F. Chang's China Bistro, Build-A-Bear Workshop and Baja Fresh Mexican Grill." Not so sure this is the same "middle market" (towel racks for $200) but they must have something in mind...

To Microsoft SV for Current computer Trend Info

In the never-ending quest to be current with all techno-trends, I am about to leave for Microsoft's Silicon Valley campus where an all-day dog-and-pony show is being put on by many SV regulars. IDEO is one of my favorites, and they are presenters and moderators. I am currently working my way through "The Art of Innovation" by Tom Kelley, GM and co-founder of IDEO. While there are 300+ pages of writing, I have yet to be WOW'ed by the information. I often find that to be the case with Marketing materials. What seems to me to be common sense is apparently not so common. Now, don't ask me to create anything for Marketing, but I can critique the heck out of anything that is created to be sure that it conforms with a brand and a target audience.

If I learn anything amazing I will report back.

Raising Capital

I am about to embark on an Angel investor search for capital on behalf of a client. The last time I attempted to raise private investor money was in 1992 and I remember sitting in a waiting room with a minister who wanted to raise money for his for-profit church in Harlem. (yes, for-profit) We were both waiting to speak with a guy purpotedly from the Saudi Royal family (a very, very, very distant cousin/nephew/something of the King) who was in NYC "looking to invest millions in great business opportunities". I was young and probably gullable. My business plan kept changing after each potential investor meeting. While looking for $200k one moment, someone would say, "Well, as long as you're looking for that much money, you might as well get $1.5M", or they'd say, "We only do investments of $5-10M" and so I'd bring back an inflated business plan matching their needs, not necessarily mine. My idea never changed, but the scope did. I never did find funding for that project; maybe it was just as well.

In the end, what I learned from all that Excel jiggling was that I let the potential and ultimately faux investors decide my financial fate and commitment. Mistake. In hindsight, it showed my immaturity and lack of clarity and knowledge.

As I look for investors this time, I will bring my clear story and financials. I have spent time defining who the proper potential investors are. If the audience does not understand my pitch or believe in my idea, or "get it" I will move on to others who will. In the end, it is not about pleasing them but rather getting my project funded because I (and my client) have done the proper due diligence to lead with confidence knowing that what we have is special, important and fundable. Those who cannot write checks after agreeing with us, need to step aside for those who can. We're on our way.

Where are the breadcrumbs?

It seems most difficult for business owners to choose a path and stick with it. Of course, it is one of the troubles of our society - so many choices- how can I choose one thing at the potential loss of other opportunities? In economics this is called 'opportunity cost' or what we lose in the one instance by choosing something else. For business owners who have so much riding on their decisions, mainly their reputations and the company's potential profitability, it is even harder to choose a path and stick with it. But it is my experience that even if a CEO is not perfectly spot-on in their decision, once they commit to a path that is sound and sane and bring others on board to help execute their plan, they are most assured of success. It is those that languish in the in-between, choosing neither to change nor committing to a strong current path, that lose. All energies can be spilled into anxiety and insecurity, wasting conversations and money.

As a friend said to me many years ago, when confronted with a decision, make one. Contemplate the options with good intention. Then choose the most rational path.