As an entrepreneur, you have competing priorities and preparing to finance your business isn’t always a simple task. Add a global pandemic and shaken economy to the mix and it further muddies the waters.
The impact of COVID-19 on businesses varies; there are some that will thrive as they remain nimble, switch to virtual platforms or reposition themselves in the market, and others, that will experience a major decline in revenues as they participate in hard hit industries with continued closures and slow re-openings.
At First West Capital, along with our clients, we are continuing to adjust to a new normal. Throughout the pandemic, we have provided support and advice to our existing portfolio by implementing more patient financing structures, injecting further capital where needed, sharing operational insights from other successful entrepreneurs and leveraging our network of business partners to bring other helpful resources to the table. Together with our clients, we navigate to a brighter future.
What does the business lending landscape look like now and how do you, as an entrepreneur, attract capital to support your business plan?
Meet Darryl Sam, Senior Director at our Toronto office – with over fifteen years of experience in partnering with business owners and entrepreneurs to help them grow their business.
Learn from Darryl as he unpacks the business lending landscape as it looks today and answers questions on how to obtain financing for your business during an economic downturn.
Darryl, breakdown the business lending landscape. What options are available to emerging entrepreneurs, already well-established business owners and businesses looking to recover from the effects of COVID-19?
The most publicized form of financing through the pandemic has been government programs such as the Business Credit Availability Program (BCAP) facilitated through your primary lender. A discussion with your primary lender as to the program’s fit is warranted but let’s look at the many layers within the business lending landscape that can assist.
Senior lenders – banks and credit unions – make up the primary layer in the financial landscape. Senior lending is based on your company’s hard assets and the strength of your balance sheet. Lines of credit and term loans are examples. Through the pandemic, bank/credit unions have offered support primarily through payment deferrals and increases to operating lines. It remains to be seen how long these deferrals and increases will last as your business will eventually have to return to a structured repayment plan. If you have the right senior lending partner, you’ll feel supported with a repayment plan that is tailored to the dynamics and expected recovery timelines of your industry.
Equity financing also remains a popular capital source – trading ownership in your company for added expertise (financial or operational) and access to patient capital to fuel your growth. If you’re an earlier stage company, you can look to active venture capital firms. If you’re a more established business, you can bring in an equity partner or private equity firm that brings knowledge and synergies with their existing portfolio of companies. The early onset of the pandemic saw a slowdown in private equity activity but is expected to surge with established private equity firms holding ample capital to invest.
The last layer is junior capital, which is sometimes referred to as subordinated debt and mezzanine financing. Junior capital fits between senior lenders and equity partners. Junior capital often takes second position security behind your main bank/credit union; it is often more risk tolerant, flexible and offers innovative ways to structure your debt. By acting as fuel for your company’s growth potential, it expedites earnings while leaving you in the driver’s seat – you keep control and full ownership of your business. Junior capital meets you in the middle – it lends like debt and listens like equity.
At First West Capital, we specialize in junior capital and customize a financing structure that works with the cash flows of your business and helps you achieve your growth objectives. We take the time to learn your business, discover and understand the key drivers to your business, and most importantly put ourselves in your shoes. We understand the unique needs of entrepreneurs and their businesses. Because it takes one to know one.
As a lender, what is the best piece of advice you can give entrepreneurs recovering from the negative impact that COVID-19 may have had on their business?
First and foremost, we understand that no one knows their business better than you. With that being said, the best advice I can give is simply sharing the successes we’ve witnessed from the entrepreneurs in our existing portfolio of companies. Below are common threads of highly successful owners and management teams that we’ve worked with:
Transparency and preparation
It is difficult during a global pandemic to forecast and make assumptions about the future of your business. However, the exercise of preparing sound financial forecasts can help prepare you to adjust and pivot quickly. Up to date financial information allows for candid discussions with your capital providers. Collaboratively reviewing expense reduction options, revenue generating opportunities and short-term liquidity requirements allow lenders to structure for a better solution moving forward.
Greater involvement with industry associations and governing bodies
Involvement with industry associations allows you to stay connected to other business owners that are facing the same challenges. The highly effective entrepreneurs we’ve worked with have shown an unrelenting desire to serve their industries well and have obtained greater influence in advocating for their respective businesses with governing bodies.
Leveraging existing partnerships
The most resilient business owners have drawn strength from the partnerships they’ve taken years to build. Those that have established and fostered cooperative relationships with suppliers and customers have found it much easier to renegotiate terms beneficial to all parties. Through the pandemic, we’ve seen renegotiated revenue splits and price increases with customers, extension of payment terms with suppliers, revised landlord agreements, etc. Don’t be shy to leverage these partnerships and renegotiate more favourable terms for a better future outcome for all.
Given the effects of COVID-19, do you think it will be more difficult for businesses to obtain financing? Why or why not?
During periods of unprecedented economic uncertainty, it’s not surprising to see a higher level of due diligence being completed. Financing has been more difficult to obtain but I imagine this will be temporary and industry dependent. The highly impacted industries including entertainment, accommodations, food services, travel and retail, may have more questions asked of them until a vaccine can bring large gatherings together again. Other industries such as healthcare, agriculture, educational services and utilities have had less challenges, being truly essential in nature.
Capital will be available but there may be a shift in terms of the sources you can expect to receive capital from. If senior lenders pull back, junior capital may play a larger role in helping to round off your financing needs. Junior capital offers a different perspective, one less focused on assets but rather on the long-term sustainability of cash flows. A supplementary term loan that offers patient repayment terms may assist in bridging a gap or helping through the recovery, until the business can access more traditional lending sources again.
What are some things to prepare before you get serious with a bank or financial partner? What do they look for or generally ask for?
Your financial partner would like to understand your business. This includes information on past performance, financial history, potential risk factors, industry dynamics and management insights.
Some key things to have prepared are:
- 3 years (or since inception) of historical financial statements, prepared by your external accountant
- Latest interim financials with comparatives
- Financial projections, showing sources and uses of funds and key assumptions
- List of aging receivables and payables
- A list of your top customers and/or suppliers
- An organizational chart of all related entities outlining who owns the business.
- Key management bios which outline who is running the business (so your financial partner can determine if there is key-person risk and assess the strength of management)
- For other businesses, such as ones in the technology industry, financial partners may want to see specific ratios such as churn rate, customer acquisition cost (CAC), customer lifetime value (LTV) and monthly recurring revenues for software as a service businesses (SaaS)
What should an entrepreneur look for in a financial partner?
Businesses aren’t just about the numbers or financial ratios they produce. You should look for a partner that takes the time to understand your business model, the nuances of your industry and the story behind the figures. Other items for a financial partner to understand are why cash conversion cycles look the way they do, how cash fluctuates between seasons, why your technological infrastructure gives you an advantage in the market, how you differentiate from competitors, etc.
Choosing one strategic direction over another often impacts multiple parties. Finding a lender that has a wholistic approach to work effectively with other advisors, lenders, accountants, lawyers, etc. will go a long way in making the execution of your strategy more seamless. Finding parties that have worked well together in the past may save you time and money.
Businesses will inevitably hit rough patches and you’ll need financial partners who can show patience and understanding during these times. An effective lender will seek to understand the unique challenges faced by your business and recommend a revised financing structure to mitigate risk. This can result in offering seasonal payments, a phased funding structure or interest/principal amounts paid closer to loan maturity. Find a financial partner that communicates well, can anticipate challenges and exhibit transparency and integrity throughout the process. A good financial partner will walk you through the expectations at each stage of the lending process, from the issuance of a term sheet to the signing of documentation.
At First West Captial, we can assist you in successfully fueling your business growth strategy through flexible and patient junior capital.