Need Cash? Be Careful. The Credit World is Filled With Predators.
Learn How To Tell The Difference Between a Bear, a Shark, and a Vulture.
In this time of crisis, most business owners and managers are trying to figure out how to keep their company alive. The first item on their priority list is – cash.
Cash is the lifeblood of any company, particularly in a crisis. Without it, the company cannot exist.
The World of Distressed Lending.
Eager to keep everyone employed and keep the business open, owners and managers can get desperate. They look everywhere for cash. In this search, they can quickly get swallowed up and crushed if they don’t know who they are talking with. They think that they are talking with respectable and knowledgeable creditors, lenders and investors but that’s not always possible. When your company is pressed for cash and struggling to survive, you enter an entirely new world called “distressed lending.”
The global economy is challenging for many people. However, there is one group that has been waiting for a chaotic and fractured moment like this. They are opportunistic and they can be lethal. While the economy was growing, this group was amassing billions that they kept neatly piled on the side-line, waiting patiently for a recession or a crisis — a period of time where they could take advantage of weak companies. This group consists of distressed lenders and investors who fall into three primary categories: bears, sharks, and vultures.
- Bear: A bear is someone that can cause you a lot of harm, but is generally just interested in eating well. Your primary lender and some suppliers that extend you credit generally are bears. During good economic times, they might be baby cubs — but during difficult times, they grow big paws quickly. They’re not happy that you can’t pay your bills on time. They may charge you a little bit more to borrow from them, and they may tighten the rules on you…but generally, they’re not interested in closing you down. They want consistency. They want you to hit the numbers you projected and they want you to pay on time, even if it’s only a partial payment. They just want something that is predictable. A bear will be your stoic friend — unless you become unpredictable, stop delivering on promises, and lash out or lie to them. If you do any one of these things, the bear will bite you… and whether you live or not depends on the size of the bite.
- Sharks: A shark doesn’t care if you live or not. They principally care that they get their huge chunk of flesh from you. They will lend you money, but it will cost you dearly. They often will lend against collateral that isn’t secured by the primary lender. Sometimes, they will lend against approved purchased orders, signed contracts, and receivables. Other times, they may take collateral from your personal assets, such as your home or other investments/savings. This group can include factoring lenders or other asset-based lenders. Sometimes, they offer “bridge” loans to get you through a particular period in time. No one really likes a shark, but you have to respect a shark. Why? Because they’re giving you cash when no one else will, and they’re taking a huge risk lending into a highly distressed situation. You may not enjoy doing business with them, but when in need, they’re a life-line for your company.
- Vultures: A vulture is just there to pick the bones. In this moment of crisis, your resolve may be strong; you believe that your company can make it through the rough patch, but the vulture knows otherwise — they know that you are already dead. A vulture is a highly experienced scavenger. Often they appear wearing nice clothing, using proper English, presenting business school credentials, and boasting about the exclusive group of investors in their hedge fund. From a distance, they may seem graceful — but close-up, you realize they’re gross and obnoxious.
A Vulture has Two Ways to Approach You:
(a) They lull you into a false sense of security, passively agreeing with you that you can make it through the crisis. Meanwhile, they con you into a very onerous loan agreement. They convince you to continue working really hard, making the company lean and saving all the best. They will encourage you to thrive — but all along, they’re waiting for you to make one small mistake. One mistake that will breach a covenant in your loan agreement with them. Often, these highly distressed lenders/investors include clauses where a default or breach of one item will trigger an automatic ownership stake for the lender. Now, they’re no longer your lender — they’re your partners. I refer to these type of deals as “loan to own.” Every time you default, they take a commission and another piece of your company. They systematically choke you out of cash and ownership. The vulture is only there to push you out and pick up your company for nothing more than the mistakes you make.
(b) A vulture can also show up as a competitor or an investment banker (representing a competitor). Competitors that turn into vultures generally don’t put on pretenses. They don’t care if you see them as a vulture — they’re enjoying your demise. They’re there to poach your best customers and employees, and to tell your suppliers that you’re going out of business. An investment banker really only cares about his/her commission check on the sale of whatever assets remain in your business. They are there to sell, and they don’t care to whom; they just care that the deal closes fast.
In either case, all vultures are nasty. You generally want to stay away from them…but if you truly are on your last leg, maybe there’s some type of deal you can strike with them. They might pick up your company for nothing, but perhaps you can strike an employment deal with them — for you and your employees. Often a vulture is just looking to gobble up the competition so they own more of the market. Their real intent is to squeeze the suppliers and raise prices on customers. They may need the experience that exists in your company. And an investment banker may need you and a team of employees to help broker the deal because the buyer is looking for a certain skill level.
This is How You Survive.
Now that you know who is out in the landscape of highly distressed lending, what can you do to prepare for this world of bears, sharks, and vultures?
- Retain a lawyer that is experienced in dealing with distressed lenders/investors. Do not use your corporate attorney. This is an aggressive environment and the people in this space have highly skilled attorneys drafting their documents and enforcing them when there is a breach. Find a lawyer or law firm that has an insolvency department or people that have worked in distressed situations. They will help you avoid big missteps and minimize the costs of the agreement.
- Search high and wide for new lenders/investors. To avoid being completely gouged, you want to have multiple people competing for your business. You need at least two or three interested lenders/investors to keep the other ones somewhat in line. Search quickly, but reach out to as many different investors as possible.
- Prepare a 13-week cash flow projection. Be sure to include three different scenarios (i.e. worst, moderate, best) for revenue and margins. By going through this disciplined process you will understand your true borrowing needs. You might be pressed for cash but that doesn’t mean you have to borrow more than necessary. Distressed debt is expensive, it will help you but it’s also a burden. You want to keep it to a minimum so you can pay it back as quickly as possible.
In highly challenging and unpredictable economic times, it may be impossible to avoid bears, sharks and vultures. However, it is important to know the difference between them — it just may save your company’s life.
If you need help, call me.