4 QUESTIONS TO ASK IF YOU’RE CONSIDERING A CREDIT FACILITY
When exporters want to win new business from clients who are oceans away, they often rely on a secret weapon: credit facilities.
This type of financing—typically a revolving line of credit or, for those with strong balance sheets, a term loan—can give the exporter enough of a cash cushion to extend payment terms that go beyond 30 days, says Gary Mendell, president of Santa Monica, Calif.-based Meridian Finance Group, which provides credit insurance and trade finance tools to exporters. That can be an important selling point with distant clients, who may have limited access to credit from their own banks and may face high interest rates, currency exchange controls and other obstacles. And it may help an exporter encourage distant clients to stock up on items that are cumbersome to ship by placing larger orders. “Credit lubricates commerce,” he says.
Having a credit facility can also cushion a business from cash-flow problems if a client takes 90, 120 days or even more to pay the bill—which is not uncommon in many parts of the world, even among clients who always pay in the end. “Slow payments can come from anywhere, not only emerging markets in Asia, Africa and Latin America, but also from customers in Europe, especially since the advent of the economic crisis in the Euro-zone,” says Mendell. By financing its accounts receivable, an exporter can continue to pay its overhead and invest in new opportunities in the meantime, he says.
There’s a hitch, though. While many U.S. banks offer credit facilities to large and midsize businesses, banks don’t often offer such products to smaller firms, so these deals can be hard to arrange, notes Rohit Arora, CEO of Biz2Credit, an online matchmaker between businesses and lenders based in New York City. “That product is not available very easily,” he says. Arora adds that in his experience, small firms often turn to the export financing available through the U.S. Small Business Administration. Because of the lack of options, when small loan applicants inquire about credit facilities at his firm, he says, “What we do is offer a normal credit product, and they use it for export financing.”
Nonetheless, some banks and alternative lenders do work with larger small businesses on credit facilities. “While larger banks may offer a broader range of international trade services, some smaller businesses may find their receivables financing solutions with community banks or non-bank asset-based lenders,” says Mendell. “A growing numbers of smaller banks, factoring companies, and other lenders are learning to work with export credit insurance, foreign receivables financing, and other trade finance services once provided only by larger banks.”
Here are some key questions to ask yourself if you’re thinking about using a credit facility.
Why do you need the financing?
Finding a solution to slow paying, credit-challenged international clients isn’t the only reason a credit facility may work for you. For many companies, credit facilities are useful in an international expansion. “They need a line of a credit to help them fund their business as it is growing,” says Derrick Ragland, executive vice president and head of mid-market, corporate banking, HSBC Bank USA. One industry for which credit facilities are common is energy, where companies use this type of financing for projects like oil exploration or laying pipelines.
Is your company ready for scrutiny?
Because of the risks involved in financing international businesses, lenders tend to vet borrowers carefully. “We spend a fair amount of time doing due diligence on the business plans people provide us,” says Andy Moser, CEO and president of Salus Capital Partners, a provider of secured asset-based loans headquartered in Needham Heights, Mass., that generally makes deals in the $5 million to $50 million range to privately held and publicly traded companies.
Salus also spends a lot of time getting to know the management team. Often bringing in outside consultants to help in the vetting process, the lender looks at a company leader’s ability not just to execute a business plan but to adapt it to new circumstances. In today’s fast-changing business climate, “You have to react to change really effectively,” Moser says.
Before Salus makes a deal, it arranges a “field exam,” which Moser jokingly describes as “an audit on steroids.” If you want a credit facility, he says, you need to show that you have audited financials, not just those that have been reviewed by an accountant, a process that is less rigorous. Banks typically share this requirement.
“You really can’t attract investors or raise any meaningful amount of capital without having a good audit,” Moser says.
Can you pay back the loan?
This is likely the number one question in a lender’s mind. Before arranging a credit facility at HSBC, says Ragland, bankers want to see if the company’s assets match the funds it will be issuing. That applies to importers, as well as exporters. “If they are going to be buying goods overseas and selling them here in the U.S., are there assets to back up that usage of the money?” he asks. Banks typically advance a portion of the money based on accounts receivable or inventory, he says.
It is also important to safeguard yourself against nonpayment risks—which lenders may require. “In most cases, banks and other lenders in the USA will not finance foreign receivables unless the sales are protected against nonpayment risks with an export credit insurance policy,” says Mendell.
How much will it cost you?
Credit facilities will often cost you around the same as other loans from a bank. For smaller businesses, SBA loans may be part of a credit facility. Their interest rates are typically the prime rate (3.25 percent at the time of publication) plus no more than 2.25 percent for loans maturing in seven years or less. Rates vary, based on factors such as the strength of the company. “It’s also based on how they’re using the money—short term money, long term money—and what life cycle the company is in,” Ragland says. Bankers will also evaluate factors like how you will be paid in a deal you are financing with a credit facility, given that fluctuating currency may bring some risk.
If you turn to a nonbank lender, it may cost you more. At Salus, the total equivalent interest rate of the loan, including interest and fees, would typically be in the high single digits or low teens, says Moser. “We’re above a bank but certainly less than equity or other fund type investors,” says Moser. “You have to weigh pricing with the flexibility of the structure and the liquidity you get. In our case, we are always providing much more liquidity than anyone else, much more than a bank. There’s a higher cost to that.”