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The general economic outlook for 2010 is for improvements over 2009. These conditions will offer a better lending environment for distributors of all types. However, there are many cautions and caveats.
Hi
This is The Distributor Board's first newsletter.
In preparing this newsletter we had the opportunity to speak with representatives from three Chicago area banks:
Chuck Gitles
Robert Shanahan and Nick Howard
John Weber
We, at The Distributor Board want to thank them for their time and insights. Their observations about 2010 are very consistent with each other.
In summary it can be said that lending to distributors will improve if their performance is positive and their operations can stand up to an increased level of review.
A series of questions were posed to each of the three banks. Here are the responses:
Q. How do distributors in general stack up as credit risks?
A. Distributors are very good credit risks due to the real tangible assets of inventory, receivables, and equipment. Distributors are positively viewed because they tend to be "more nimble and able to react" to changing market conditions.
Distributors are natural businesses for "asset based lending." Whereas "cash flow lending" is "covenant rich", asset based lending relies on more stringent evaluation of receivables, inventory, and equipment. "Asset based lending is more intensive on valuing assets and lighter on covenants."
In evaluating distributors as credit risks, answers to a couple of key questions are sought: How much value are they adding? And, is the business model sustainable? The bankers concluded that if the distributor is adding value, has good contracts, strong receivables, and well-managed inventory their access to credit should not be a problem.
Q. What are the characteristics of a preferred distributor client?
A. Bankers appear to be looking for very similar characteristics:
· Diversified customer base.
· Marketable inventory that is not specialized.
· Good supplier and customer relationships.
· Not selling to high risk customers or "crazy" terms.
· Strong supplier and customer contracts.
· Healthy capitalization.
· Ownership lacks large obligations outside the company.
· Good accounting.
· Stringent markdowns of slow moving inventory.
· "Whatever eliminates uncertainty"
Q. What do you see as the expected ratios for receivables, inventory and equipment in 2010?
A. The rule of thumb historically has been that distributors can borrow 75-85% on receivables and 35-65% on inventory. The bankers we interviewed concluded that "whatever the advance rates are today they will be 'lower' in 2010." They estimate that they will be lower by approximately 5% in 2010, so if you are at 80% plan on 75% next year. "In the past we were at the high end of the range, and next year most likely at the lower end."
Very important here is the "quality" of the receivable and inventory. If inventory is too "specialized," it will have lower rates. Bankers interviewed are more closely looking at "who the distributor is selling to?"
One banker indicated that overall, "The 'evaluation' is more stringent." "We will be scrutinizing receivables and inventory a lot more, which will mean a greater number of audits."
Q. What will make 2010 different than 2009 as it relates to distributors obtaining bank financing?
A. The bankers interviewed expect that there will be fewer banks and therefore less competition. One banker suggested that "Banks need to be considered a 'core supplier'." "If your bank closed tomorrow, what would you do?" The recommendation is to have a "second" bank, just in case. For distributors it will be important to find out "what is the lenders financial position? They may not be in good condition."
One banker expects that "rates" will be going up in 2010 by "150-200 basis points." "If you are paying 3¼% now you may be paying 5% by the end of 2010." "The difference between 2010 and the past is 'reporting,' on a timely basis. Covenants are 'not a joke' anymore. If a company is late it may go into workout faster than ever." "Over communicate your situation." "Be prepared for more questions and scrutiny of your financial situation."
The bankers indicate that in 2010 they will "need to make loans, grow their book of business, but, for the 'right' companies."
Q. Are there new "creative" financing approaches that are working in this market?
A. Many underperforming distributors will be pushed into "factoring" and other higher interest rate "financing" companies. "The cost of loans will go up caused by fewer banks," and "more scrutiny." This may force more distributors into less conventional financing. Some distributors may have to look to financing from their "suppliers."
Distributors should give consideration to "tax exempt financing." Banker can lend money at a "tax exempt rate" if, for instance, a distributor is building a warehouse in an "enterprise zone." Helping to create jobs in an "economic recovery zone" may also qualify. A loan of this nature may receive a "20-30% discount over standard rates."
Q. What other issues are important from a lending and credit perspective?
A. 2010 may offer some opportunities for distributor growth through acquisition. "There may be a lot of 'grave dancing'." If you are doing well, banks will be interested in financing a "good deal." Conversely a deal that drags a company down will have a lot of trouble getting financed in 2010
"Distributors who are going to be successful are those who are reliable. Their ability to pay on time is a benefit with suppliers." "Liquidity will provide a competitive edge." Working capital financing is critical for distributors and provides the capacity to grow market share. Successful distributors in 2010 will "have a full tank of gas."
Conclusion
For most distributors credit is a critical part of the business. 2010 will offer challenges in obtaining credit, however, good business practices, regular reporting, and maintaining a strong relationship with your banker, will continue to allow you access to the credit you need. Remember not to become complacent with your situation and consider multiple banking relationships. Be prepared for higher rates and more scrutiny.
Let us hear your comments. We welcome your feedback. |
