Market changes in recent years can make securing traditional financing challenging for some business owners. In some cases, term notes are expiring that are now difficult or impossible to renew, or require restrictive covenants. Some traditional lenders are asking for additional restrictions on assets, receivables or inventory, or limiting the funding they can provide because of tightening liquidity.
As a result, a company might have a difficult time renewing a credit line or obtaining a critical term loan. Though a company’s financial situation may not have changed, it is facing a higher bar for accessing capital than just a few years ago. Such conditions have led to an increase in private credit from alternative lenders — investment consortiums and firms — that offer growth capital to business owners.
Smart Business spoke with Neal B. Colby, CPA, CEPA, Member and Chief Financial Officer, CM Wealth Advisors, about alternative lending opportunities and how business owners can access them.
Why consider multiple lending sources?
As a business owner, it’s good to have more than one lending option. Traditional lending sources have differing credit criteria that can depend on geography, industry or other factors, which makes it important for a business owner to develop relationships with multiple sources of credit. In addition, alternative capital sources can be more accessible than traditional sources, which makes it more important than ever to shop around for the best credit deal. There’s money to lend in the private credit market that can be priced at a similar cost to traditional sources, though the actual cost to the business hinges largely on the terms.
In some cases, alternative capital can look much like a standard senior or term loan — however, the lender may want some warrants or the ability to buy equity. Those who don’t want to give up equity may be asked to pay a little bit more in interest costs to avoid diluting ownership. Each situation is unique.
Alternative lenders also may be available to invest in the business for the mid- to long-term. They could provide supporting capital for a new product line, real estate and capital equipment, while bringing operational expertise that could increase the value of the business for those who are contemplating an exit or the next stage of growth.
What should businesses know before working with alternative lenders?
Before lending, alternative lenders, much like traditional lenders, will want to see strong financials, and understand why the loan is needed and what value the investment adds to the business. That could include, for instance, an attractive M&A opportunity that would allow it to buy out a vertical or make a lateral combination of businesses that would add significant value.
Business leaders should think about the lending criteria from a cash flow and opportunity cost standpoint. For example, private capital interest rates may seem high, but the money could be used for a purpose that can add more value to the business than the interest to be paid. The costs and benefits of the overall deal should be considered, not just the initial cost.
How do businesses connect with alternative lenders?
Business owners should start by talking with someone who has experience with many credit options, including private credit markets, as existing relationships can be important in finding the right solution. Investment advisers, CPAs, business brokers and investment bankers can often put business leaders in touch with lenders who can offer alternative solutions.
Before committing to a lender, business owners will want to ensure it’s going to be a good partnership. Have trusted advisers at the table who have some experience in this area and can advocate on their behalf.
Business owners today can access sophisticated financial markets not limited to traditional term debt. Utilizing those options allows a business owner to play offense, especially in more volatile market when traditional lenders tighten business credit. Don’t wait until the last minute to start establishing relationships with alternative capital sources. Build relationships well before they’re needed so you’re prepared when opportunities to increase the value of a business arise. ●
INSIGHTS Wealth Advisory is brought to you by CM Wealth Advisors.
