Why Mid-Market Loans Don’t Close
Barriers & Risks to Funding
The road to a loan funding is often a winding one. The term sheet negotiations are usually complex and lengthy as both parties negotiate a favorable outcome. But once a borrower receives term sheets, the work isn't over. Term sheets are non-binding and are designed to signify a bank or lender’s conviction in funding your business. Even after a borrower signs a term sheet indicating they want to move towards closing, the deal can fall through for a number of reasons. It is important to understand how and why loans fail to close. Armed with this knowledge, you may be able to avoid common mistakes and, hopefully, successfully close a loan with ease.
Key Players in the Loan Approval Process
Let’s recap the critical roles involved in loan approvals process. Knowing who has the power to push a loan through to the next step is important.
He/she acts as “sales” person for the lender. They are responsible for sourcing and securing new opportunities to the bank. They are actively engaged with clients, pitching new prospects, handling initial phone conversations, and disseminating loan requests to the appropriate department. Most likely this individual is your primary point of contact and will relay any news (good or bad) to you directly. But take their word with a grain of salt. The relationship manager holds no power in approving the terms of the loan.
The relationship manager should run all financing requests through their credit committee. If the borrower receives a term sheet that has not been approved by a credit committee then there is extreme uncertainty whether or not the lender can move forward.
The committee is usually comprised of multiple people including an underwriter and sales management. Rarely will the borrower have direct access to speak with the credit committee directly. But they hold the power in approving final terms of the loan. If they have approved term sheets, there is more certainty in the banks ability to move to close.
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Process to loan close & what can go wrong
There are many steps between the term sheet and loan closing. While banks and lenders loan processes can vary, they general include the following steps
Review of historical and interim financial statementsMake sure your financials are up to date and accurate. Ensure that you have consolidated statements if there are multiple borrowing entities. Many lenders will request accountant prepared statements but will accept company prepared interim statements. If you do not have accountant prepared historical statements, be prepared to hire an accounting firm to handle these. Many times the loan will be contingent on delivering these.
Review of pending litigation
If you are aware of any pending litigation against the borrowing entity or any of its owners, it is best to inform lenders about these prior to term sheet negotiation. By informing them of this upfront and crafting a careful narrative around the situation, the borrower has the best chance of overcoming the lender's fears. If the lenders discover the litigation in diligence, the relationship can become more strained and sometimes its harder to explain.
Appraisals for assets supporting the loan
The lender will request a third party appraisal of assets that are used as collateral. The lenders need comfort in knowing that if cash flows can not support the loan payments, the assets can be sold off at a high enough value to cover the bank's loss. If the appraisals come back significantly less than the borrower's internal estimates, then it's likely the loan amount could decrease from the original term sheet. Cerebro recommends that the borrower request another appraisal by a separate company if the first appraisal returns unreasonable values. Note that the borrower will have to pay for the appraisal but it is sometimes worth getting a second opinion.
Background checks on guarantors & owners
As with any pending litigations, it's in the best interest of the borrower to be upfront and forthcoming with lenders regarding any prior bankruptcies, SEC violations or other issues the owners and guarantors might have had in the past. These will come out when the lender does an in depth background check. Any surprises will put a bad taste in the lenders mouth and will be harder to overcome.
Stress testing of revised forecasts
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Model revisions & revised forecasts
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Benefits of a third party advisor
Most companies don’t have a capital markets team that is regularly handling debt placements, reviewing term sheets or negotiating with lenders. Most companies do this only once every three to four years at best. Advisors are in the market every day and have the experience in running RFP processes. They can be the critical piece in helping secure financing and successfully closing a loan.
When selecting an advisor, ensure they are knowledgable enough to craft a narrative that appeals to credit committees. It's one thing for an advisor to tell you which lender to call. Its another thing entirely, to have them stand by your side promoting your company's success story. Advisors are even more critical in the case where a company has a stumbling block or a dip in their financial performance. These are not obstacles but rather areas where an advisor can help strategize a story.
What makes Cerebro Capital different?
Cerebro's transaction team is comprised of debt placement experts, many of whom have worked at commercial banks and lending institutions. Having sat on the other side of the table, they know what it takes to negotiate favorable term sheets and get a loan approved through a credit committee.
Additionally Cerebro's team uses transaction data collected from the Federal Reserve, term sheets received on our platform and from the underwriting criteria of hundreds of lenders on our network.
Cerebro offers a complimentary analysis where our team can identify the strengths and weaknesses of your deal before talking with any lenders.