Cherrytree Group LLC Blog

... by Warren Kirshenbaum

It is my opinion that banks really do not have much incentive to lend money. Banks can borrow money from the Fed at rates that approximate zero, and they can then purchase US Treasuries and return a 3 point spread with little to no risk. Accordingly, why would they be willing to incur the time consumption of due diligence, the transaction expenses, and the inherent risk of loaning money to consumers and businesses when they can be profitable borrowing from the Fed, lending to each other, and engaging in hedging transactions. Nevertheless, as their apparent mandate is to take in deposits and then loan those funds out to borrowers while maintaining a reserve of funds to maintain net capital requirements, they need to put some money out to work in loan transactions but their documents, loan covenants, underwriting requirements, equity requirements, and debt-service coverage ratios are very restrictive, and in some cases are either unprofitable for borrowers or are putting businesses in the position of having to run business decisions by their bankers prior to accessing necessary working capital or credit line funding. I have been promoting for some time now that businesses need to create their own sources of funding, in order to decrease their reliance on bank financing, which is fast becoming a scarce resource. Private equity or corporate debt issuance is a viable option in these economic times, and I urge businesses of all sizes and levels of growth and development to formulate a plan to tap their non-bank resources for capital funding.

Interestingly, a midterm election that changes the majority party in Congress, such as the 2010 Midterm elections did can have a profound effect on the business plans of many different types of companies. For example, those businesses that supply the defense industry may find that under a Republican controlled Congress there are more dollars appropriated to defense spending, and will benefit from such a political change. Those businesses that are non-unionized may find that a Democratic Congress or state administration would be more favorable to union labor and open-shop employers may find that the cost of labor would dramatically increase, effectively turning a company’s cash flow upside down. Any of these factors would cause a company to need to seek financing to smooth out the edges while it re-formulates its business plan and carves out new market niches for itself.

My message is that if you are hoping to seek bank financing, you should add to your quiver of options the possibility of raising funds using private equity, or by issuing corporate bonds or debt instruments. As you are setting the terms of the offering or issuance you are in more of a position to control and accept provisions, terms, covenants and this will be beneficial to your business interests, and that will spur, and not hamper or restrict growth. We, as small business people are in need of capital and funding to execute many, if not most of the objectives of our business plans, but the sources of capital have become restrictive, unwieldy, and stifling. It is time to change the terms of this game, and look for alternate sources of funding.