[Cover Story] Cash Crunch

Politicians may have promised to free up capital, but Main Street still is having a hard time securing loans and credit.

According to the U.S. Treasury, commercial and industrial loan commitments decreased by 16 percent in December, the latest data available at press time.

That’s no surprise to Skyline Pest Solutions CEO David King in McDonough, Ga. Despite his firm’s double-digit profit the last two years, King "can’t find anybody to loan the money" to help him acquire a 20-year-old successful business in the same region. In 2006 the bank "threw money at us" for a similar acquisition.

"It blows my mind how a profitable business can’t buy a profitable business in the United States," said a frustrated King.

Jerry Smith, co-owner of Dial Pest Control in Roseland, N.J., saw the balance of his credit line revoked due to market conditions in the Northeast. Banks are freezing access to previously approved credit as equity in homes dries up. "That was a direct impact by the market that I haven’t seen before," he said.

Many small business owners rely on home equity lines, Smith explained. Compared to commercial loans, this is "cheap money" owners can use as they see fit, such as helping cover payroll during winter. Smith has structured his business so "we don’t have to do that any more," but others didn’t plan for this. "Some folks are very strapped right now."

Even for large operations like Rentokil North America, "obtaining credit in the marketplace in recent times is tighter than in times past," said CFO David Wareing. Parent company Rentokil secures funding through international markets.

The process was easy up until 18 months ago for those with good credit history, said Dan Gordon, CPA, and owner of PCO Bookkeepers, which does accounting for 40 pest management firms.

Recently, though, it’s been "very, very difficult," he said. One client with $15 million in sales wanted to increase his credit line by $100,000. "You would have thought he was asking for the world," Gordon said.

Stuart Aust, president of Bug Doctor in Paramus, N.J., was required to complete extensive paperwork to roll over his credit line this year. "Even companies that are sound, banks are scrutinizing right now."

Two years ago, every bank was fighting over every deal, so loans were cheaper and had fewer requirements, said Mike Deney, vice president of commercial banking at Gurnee Community Bank in Gurnee, Ill. Today, loan structure is "tighter because there’s less competition in the market from bank to bank," he said.

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Improve You Odds

Securing capital these days is a challenge. Here are some tips to help improve your odds:

Credit score. You are your small business, especially when it comes to your credit score. Know what’s on your credit report and take action to improve it, said Gurnee Community Bank Commercial Lending Vice President Mike Deney. A poor score is "a reason to deny a loan" and some national banks base their decisions solely on this factor, he said.

Collateral. What assets can you pledge? Equipment? Real estate? Your home? Retirement accounts are protected assets and cannot be pledged. Come prepared with collateral that shows your commitment to the business.

Cash Flow. Know your cash flow and how much you can afford to borrow before you visit your lender, said Deney. And, provide lenders a viable business case supported by a track record of managing growth successfully, said Rentokil North America CFO David Wareing. Demonstrate you have the ability to pay, which is important for lenders trying to minimize risk, he explained.

Character. Banks want to know borrowers, especially in this environment, and will research both the company and its owner, explained Deney. Take steps to correct judgments and bad press. On the flip side, have mutual customers put in a good word for you and your service, and get to know your lender.

The Small Business Administration recommends approaching your primary bank where you have a relationship. Not successful? Try again somewhere else, said SBA Spokesman Mike Stamler.

Preparation. Paperwork is a pain, but every transaction requires it. "If more small business owners were prepared with all of the obvious things, their application process would go smoother," said Stamler.

Get Counsel. Before meeting with your lender, get guidance from professionals at SBA district offices (www.sba.gov/localresources/index.html) and Small Business Development Centers (www.sba.gov/aboutsba/sbaprograms/sbdc/sbdclocator/index.html).

Be a Good Borrower. When your pest management firm does secure capital, pay lenders back in a timely manner so you build a foundation for future loans at better rates, advised Adams Pest Control President Todd Leyse.

Eye to the Future. "Keeping a tight grip of your inventories, receivables and payables will of course reduce the need for pest management professionals to seek credit in the first place," according to Wareing.

Focus on operations, added Leyse. "Keep growing, and keep your margins steady or improving."

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MORE HOOPS. Unfortunately, firms that need capital the most are the least attractive to banks right now. "My guess is the people who are having problems getting a loan are the people who have problems with the business," said Deney.

He said established firms with good cash flow shouldn’t have trouble getting short-term loans. But this "gets a lot tougher" for companies that took a hit to sales or net income in the last two years, unless they have large cash reserves. Banks base decisions on financial ratios and need to feel comfortable management can increase revenue — or profitability by reducing expenses — to support future debt payments.

Securing funds to continue operations through a rough patch is a long shot, especially for firms that don’t make changes and continue to lose money. Will they come back to the bank next year and ask for more, Deney questioned. "That’s just not something that’s finance-able."

Pest management firms are at a particular disadvantage because their value lies in intangible customer lists, not hard assets, said Gordon. "Good times and bad, banks don’t like our industry."

Many lenders are steering borrowers to Small Business Administration-backed loans, which limit banks’ risk should the borrower default. King looked into these but found the "formulas are out of whack for service-oriented companies that have residual business."

Smith said SBA loans are a "long, long process" in New Jersey and "not a viable resource" if you need cash quickly. He sold his former building to a buyer who eventually secured an SBA loan and it "took eight months to close."

Gordon worked on four SBA loans over six months, and all fell through.

According to SBA Spokesman Mike Stamler, "SBA guidelines are pretty wide open for service-oriented business." Programs include the 7(a) covering general business purposes for start-up and existing small businesses; the CDC/504, offering long-term, fixed-rate financing to acquire fixed assets; short-term micro-loans up to $35,000 for working capital or to purchase inventory, supplies, furniture, fixtures, machinery and/or equipment; and ARC loans, limited-time funding provided by the American Recovery and Reinvestment Act of 2009 to help struggling small businesses make payments of principal and interest on existing debt. 

One caveat: The SBA requires business owners to have an equity stake in the business, usually by pledging home equity.

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Alternative Funding

Commercial loans aren’t the only way to get capital for your business.

A good percentage of business owners tap family members, said Gurnee Community Bank Commercial Banking Vice President Mike Deney. This only is an option, however, if the family has the resources and willingness to lend. If so, be sure to write up a contract with a time frame for payback and terms, he advised.

David King, CEO of Skyline Pest Solutions, considered using venture capital to fund an acquisition since conventional financing was "not accessible to us." The drawback: Such agreements come with significantly higher interest rates and collateral requirements.

Right now, seller financing is the best alternative for acquisitions, said Dan Gordon, CPA and owner of PCO Bookkeepers. "Even the big boys are doing it that way." Buyers put 50 to 60 percent down and make payments over a number of years. "It’s not a bad way to go if you’re selling your company," he added, unless you need the money immediately.

PMPs who own their buildings may be able to pull some equity out, but the amount is questionable with real estate appraisals down, added Gordon.

Credit cards secured before the crunch are a short-term fix, said Jerry Smith, co-owner of Dial Pest Control.

Tapping into 401k or retirement accounts should be a "last resort," said Deney. If you must, borrow. Don’t liquidate the account, as you’ll suffer significant tax consequences and penalties.

Borrowing against receivables, called factoring, is another risky option. Specialized lenders provide immediate cash but at high interest rates quoted by the month. Rates quickly can add up to 36 percent or more a year.

Saving for the proverbial rainy day by stashing the cash is the best route going forward. "We have been concentrating on cash generation within our businesses to minimize the need to fund externally," said Rentokil North America CFO David Wareing.

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IT’S NOT YOU, IT’S ME. A bank’s own financial situation has a lot to do with whether or not you get a loan. It’s all about ratios: Regulators won’t let many lend until they raise capital to cover potential losses. "You’re seeing that a lot in this environment," said Deney.

In September 2009, 552 insured banking institutions were on the FDIC’s "Problem List," the highest level in 16 years.

That might explain the "series of excuses" that dragged out the process for King. Time and again bankers requested more information and cash down, but never gave productive feedback as to why the loan wouldn’t move forward, recalled King, who eventually decided to hold off on the acquisition. "I wish I knew what the golden ticket was."

"Bankers are administrators," said Gordon. "If they have nothing to administrate, then they have no jobs."

Gordon also cited the divide between regulators, whose job is to protect depositors, and politicians, who want banks to lend capital to small business. Until they come to terms, "you’re not going to see a lot of money going to small businesses."

SIGNS OF IMPROVEMENT? Détente inched closer in February when regulators said banks won’t be subject to "supervisory criticism" for small business loans based on a borrower’s financial condition.

It stated, "Financial institutions should understand the long-term viability of the borrower’s business and focus on the strength of a borrowers’ business plan to manage risk rather than using portfolio management models that rely primarily on general inputs, such as a borrower’s geographic location or industry."

In his State of the Union Address, President Obama said he wants to "take $30 billion of the money Wall Street banks have repaid and use it to help community banks give small businesses the credit they need to stay afloat."

The SBA has seen loans increase: Almost 1,100 commercial lenders that had not made an SBA-guaranteed loan since 2007 have made one or more since the Recovery Act, said Stamler.

In fact, the U.S. Treasury reported total small business originations increased by 21 percent in December. Another bright note: The need for capital in the pest management industry wasn’t as great as in some other industries, said Gordon. Despite last year’s bad economy, many companies "made a lot of money" by cutting costs.

A profitable 2009 meant Bug Doctor didn’t have to tap into the company’s line of credit this winter. Aust feels fortunate the line remains open. "We all know there are times in the life of a business when your need a credit line."

Rentokil North America’s Wareing says capital is "beginning to loosen up." The firm is "expanding our investment in the business, particularly in our IT systems, acquisitions and vehicle fleet."

Adams Pest Control in Medina, Minn., has a bank offering to pay off the balance of a 2009 seller-financed acquisition at a lower interest rate, though President Todd Leyse likes the terms with the former owners better.

In the past three years, Leyse bought a new office building, remodeled the old building to lease, and invested in hand-helds and software, and generators and heaters for bed bug work.
Smaller PCOs, like Rich Best, Best Pest & Animal Control, Saginaw, Mich., and Gary Hanson, Hanson Pest Management, Oregon, Wis., haven’t had to rely on credit. "We’re 100 percent debt-free, thank God," said Best.

E-mail the author at anagro@giemedia.com.