March 28, 2017
By Ben T. Nicholson
President, Fortis Business Advisors
SBA Hot Topic Tuesday — 5.5% of SBA 7(a) Loans Approved Last Year will go Delinquent — Workout Tips for Solvency
Of the estimated 73% of small businesses which use financing to fund their business, some will default.
Current delinquency statistics on small business loans have averaged 5.5% since 2016. If this average holds, of the top 100 SBA 7(a) program lenders in 2016 that approved 9,154 loans totaling nearly $4.2 billion in capital exposure, a mix of roughly 500 businesses could fall into a distress situation during their lifecycle.
With strategic turnaround guidance and effective support, many of these businesses can emerge stronger and ultimately become profitable, long-term borrowers.
When SBA loan payments are missed, experienced workout officers are quick to sniff out whether a borrower is aware of what is actually causing the business challenges. In presenting a workout plan, “We are going to do more marketing,” and other corrective measures that could have been effectuated prior to the delinquency are not feasible solutions that instill confidence. Hence, the bank will become overwhelmingly incentivized to focus on recovery of the guaranteed portion of the SBA loan.
However, there is value in allowing the debtor the opportunity to cure delinquencies which enables the lender to maximize recovery on the loan. When a borrower is cooperative, answering the lender’s calls, and is open to performing the necessary steps to stay in business, an effective workout strategy will unlock hidden sources of capital which will lead to a positive course correction and return the borrower to regular debt servicing.
Turnaround Strategies Made to Stick
SBA SOP 5057 presents guidelines for determining whether a borrower is a good candidate for a workout including reviewing loan documents and updated business and personal financial statements, conducting a site visit, and determining the borrower’s competence, cooperation, good faith and financial and operational viability. While these guidelines are a good start, they are marginal in addressing corrective measures for an effective emergence and ongoing success of the business.
To effectuate a successful turnaround, seven sequential core strategies are recommended:
1. Diagnostic Business Analysis – Execute a comprehensive assessment of the business which identifies the organizational, operational, and marketing challenges and their impact, including variances from projections submitted at loan origination. Corrective measures from results can unlock immediate cash which can be applied to delinquent loan balances as well as support financing for professional services.
2. 13-Week Initiatives – Chart a 13-week Cash Flow statement and Budget projections, Working Capital requirements, and 30/60/90 Day Action Plans.
3. Monetize Surplus Assets – Generate additional cash flow through a sales promotion, wholesale promotion to third party vendors, and/or surplus balance liquidation. Immediate execution will prevent diminishing returns from depreciating asset values.
4. Target Sales and Marketing – Identify core product lines or services with the highest sales and profitability and shift resources to strategies with immediate positive top and bottom-line impact.
5. Optimize Expenses – Ensure a portion of profit is allocated for every dollar generated by pinning budgets to optimal expense levels and running operations from break even.
6. Strengthen Key Relationships – Assure vendors and customers that measures are being taken to solidify relationships, and open negotiations for short-term payables concessions.
7. Identify Alternative Financing Solutions – If applicable, determine short-term Working Capital funding, Factoring, and loan-buyout options.