Don’t sabotage your banker’s support

September 1, 2002 By    

In 1996, Richard Handler took over the family propane business after the death of his father. He had been involved with the business when he was growing up, but after college he chose a career in corporate America and moved away.

Over the years Richard never quite agreed with how his dad ran the business. Now that he was in charge, he decided to put his professional business training to use in running the operation. He had high expectations, was committed to making necessary changes and threw himself into the challenges.

His first goal was to focus on growth. Under his father, growth was somewhat sporadic ­ never more than 250 customers in one year. Richard knew he could do better and set a goal of 500 tank sets per year for the next five years. He also decided to upgrade the delivery fleet and invest in a new computer system, with on-truck data input and new electronic meters.

This growth required capital. When Richard inherited the business, it had some $250,000 in a term note from the local bank, a very serviceable level of debt. Richard approached the family’s local banker about his plans, but fast growth and the additional debt required exceeded the bank’s lending limits. So he sought and found a larger regional banker who was more excited about his plans for growth.

This new banker, Ralph Langly, liked to lend to companies with aggressive plans, and he felt Richard was on the right track for success. The original $250,000 debt was rolled into the new bank’s loan.

The new banker was not familiar with the propane industry, so he relied heavily on Richard’s experience and the reputation of the business. With his aggressive estimates, Richard forecasted a two-year payout on each new tank set, as well as significant savings as a result of the upgraded fleet’s new onboard computer system. Richard convinced Ralph that the payouts from the new tank sets, as well as the increased efficiencies from the new onboard computers, would significantly improve productivity and increase profits.

Setting the stage
Richard accomplished a great deal of his new customer growth plans. He also upgraded five of the six delivery trucks, and soon the debt grew from $250,000 to well over $1.5 million. Although the cash flow of the business also grew, it never met his aggressive projections.

In talking with Ralph, Richard blamed his situation on a warmer-than-normal winter, tough competitive pricing and resulting lower margins. He also said the productivity gains simply had not had enough time to show up on the financials.

Although Richard’s explanations made sense, Ralph was beginning to lose confidence and sensed he was not getting the whole story. In the third year, free cash flow continued to cover the debt obligations, but by a slim margin. Ralph began to pay more attention to the asset values backing the loan, which was sufficient for the bank’s criteria.

Mounting Challenges
As luck would have it, the winter of 2000-01 was significantly warmer than normal, and gallons were down a whopping 17 percent.

Adding to an already burdened cash flow situation was the consequences of Richard’s decision to substantially increase the volume of pre-buy propane over years past. These gallons were not supported by sales, and were secured with little down payment to the suppliers.

Richard chose not to share this information with Ralph. He was confident the market could only go up. Without Ralph’s knowledge, Richard was hoping to have a great year and knock down a chunk of debt.

The results were a financial disaster. In addition to his gallons actually being lower than the previous three years, the wholesale markets fell significantly and Richard found himself with high-priced wholesale costs. The business couldn’t meet its debt obligations and a restructuring plan was put into place.

The consequences
In the fifth year of operations, a friendly neighboring competitor approached Richard about his desire to sell. On the strength of the long-standing family relations between the two companies, the seller was giving Richard first crack at buying the business. The asking price of $2 million was fair considering the size of the customer base, the asset base, and the historical financial performance.

Richard’s request for funding this quality acquisition was flatly refused by Ralph and his bank associates. Richard also had no success in gaining the favor of new lenders. As a result, the opportunity for Richard to acquire the other business was lost; that business was sold to another competitor.

Three cardinal errors
In five short years, Richard managed to commit three of the biggest sins a borrower can commit against his lender.

Error 1: Setting unattainable goals
Richard started off on the wrong foot by establishing unrealistic projections. Giving your banker accurate projections, and then proving yourself through your performance, directly impacts the confidence and trust your borrower will have in you.

Error 2: Giving misleading explanations
All businesses fall short of goals from time to time. Instead of clarifying that the original projections now appeared overly optimistic, Richard blamed weather and competition for the shortfall. Not being open and honest with Ralph fostered the banker’s mistrust of Richard and his business, and further drove a wedge into the lender/borrower relationship.

Error 3: Keeping bad news to yourself
What a banker fears most is not being kept informed of critical issues that can affect the business. Richard’s decision to take a significant market position, and then not disclose the problem until the news was old, was a big mistake.

Only when you’ve established attainable goals, educated your banker about your business, and kept him or her informed will your lender develop confidence in you and your business. And the importance of establishing that confidence can’t be overstated.
The point is that a solid relationship with your banker can make or break your business. In Richard’s case, his business was growing well, tank sets were increasing, and the asset base more than covered the borrowing amounts sufficient to meet the lender’s standards. In fact, the operation was likely to continue to be fully financable, if the bank hadn’t lost confidence in Richard and his ability to run the business.

Establishing a relationship with your banker based on open, honest communication and mutual trust is absolutely critical to your company’s success.

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