HOW MUCH YOU CAN BORROW FROM DIFFERENT SOURCES

Since the borrowing you are able to achieve will normally be driven by the available security, the finance you can raise by way of loans against your business’s assets will comprise a package of borrowings against its:

• property by way of commercial mortgage or sale and leaseback;
• plant and machinery by way of sale and leaseback; and
• debtors (and sometimes stock) by way of a factoring or invoice discounting facility.

The easiest way to see how bank lending works and how other sources may differ is by working through Widget Co Ltd’s options.

For clarity I am ignoring any further finding that might be available based on other security such as an SFLG backed loan.

Borrowing from bank

Widget Co Ltd is currently borrowing from a mainstream clearing bank. Given its assets, the maximum levels of borrowings likely to be available from this source without additional security being given such as a PG are as shown below.

What this statement clearly shows is how the bank’s funding package is clearly structured around the property and the debtor book, supporting a mortgage and overdraft respectively.

Unlike the estimated security position shown earlier in this chapter this statement assumes that all of the company’s debtors

are good. However, you will see that the loan to value percentages applying to the values of property and debtors mean that the levels of loans that these support are less than the estimated recovery from the assets shown in the security statement. By applying these loan to value percentages the bank is therefore intending to ensure that any loan it makes can always be recovered if necessary, given the values that tend to be achieved in insolvencies.

It is worth pointing out at this stage that the banks will in theory lend at higher loan to value ratios against property than I am showing here, in some cases publicising that they will go up to 80%. I have used 60%, as my experience in practice is that banks are more conservative in reality and like to build themselves in that extra bit of safety, for example to cover themselves should there be a shortfall on the overdraft side of the lending package. Of course if you have convinced your bank manager that you are an excellent risk you may be able to obtain that higher level of advance.

You will see that there is no lending shown against either stock or plant and machinery. Of course, depending on the type of plant and machinery the bank may be able to provide some finance against this asset separately through its leasing business. So if we assumed that say £50,000 might be raised this way, this would give a total funding available of say £270,000.

This compares to actual current borrowing of £61,000 on the company’s overdraft compared with a suggested maximum limit of £100,000, and a current mortgage of £100,000 against a suggested maximum level of £120,000. Given that according to last year’s accounts the outstanding mortgage was £150,000 this might suggest that the bank may have either:

• taken the view that across both the debtor book and the property there was sufficient security to keep them covered; or
• have asked for a personal guarantee as additional security in respect of the mortgage borrowings.

This may also explain why the company has arranged to pay £50,000 off its mortgage over the year, which brings it within the bank’s normal lending criteria.

Borrowing from a range of asset based lenders

As an alternative to bank borrowing, the company could look at borrowing from a range of individual asset based lenders, each specialising in a different type of lending as a way of increasing the funding available to it.

In this case the borrowings available might be:

Working down the balance sheet you can see that two things are happening in comparison with what would be available from the bank. First, the company is able to borrow against more of its assets and secondly, the level of borrowing it is able to achieve against those assets is also higher. The result of this is an increased level of funding available.

In this case the company has gone to a specialist property lender which is able to concentrate solely on its risk in lending against the property and is there fore not worried about ensuring there is some security left in the property to cover an element of the overdraft as well. This lender has therefore been able to provide a mortgage of 75% loan to value (although up to 85% may be available in some cases), as opposed to the 60% available from the company’s bank, a difference in this case of £30,000. In fact if the property had been worth more than £500,000 it might have been possible for the company to go for a sale and leaseback, and could have raised over 100% of the property’s estimated OMV (see Chapter 8 for the reasons why this might be the case).

The company has also entered into a sale and leaseback arrangement in respect of its plant and machinery which has allowed it to realise their full value.

By going for factoring of its debtors the company has obtained an advance of 75% against the book (and by shopping around amongst the independent non-bank factoring companies might even have been able to obtain 80% or 85%). However, having done so the company would not generally be able to get an overdraft from its bankers as the debtors would no longer be available as security with which to support it.

Taking stock into account

The statement is also showing that the company has obtained an advance against stock although normally this would not be seen as a separate item. Many of the factoring and invoice discounting lenders are now prepared to take stock into account in order to give an enhanced level of drawdown against debtors. So the £20,000 stock advance would actually appear as an increased level of funding against debtors by the factor, which in this case would result in an actual drawdown of say £170,000 against a debtor book of £200,000, or an effective advance of 85%.

Borrowing from structured finance lenders

Finally the company could also try replacing the bank with an asset based lender, providing a full package of lending across the different classes of asset known as a ‘structured loan’.

In principle the lending available from this source looks to be the equivalent to what can be obtained from a mix of funders as above.

The difference here, however, is that since most of these package lenders’ core business is invoice discounting, they tend to have a policy that while they will lend across all different classes of assets, they like to keep their overall lending tied to the level of the debtor book. While these lenders will obviously vary the degree to which they do so and the degree to which they will make exceptions, they will tend to operate a policy of having an overall limit on lending to any one particular business as being no more than a set percentage of the debtor book.

In this case the lenders’ restriction is to 150% of the value of debtors, which obviously reduces the total lending available to £300,000.

Conclusions

Widget Co Ltd therefore has the following indicative options when it comes to borrowing:

Clearly if the company wants to maximise its ability to borrow, using a mix of flinders offers it the best chance of achieving this objective. The disadvantage of this approach, however, is that the company then has a large number of lenders with which to deal. During normal operations this may not be a problem, but if the company were to get into difficulties it would need to deal with its many lenders in order to get support, each of whom may have a different agenda.

In contrast, both bank and the package lender offer solutions where the business will apparently only have one lender to deal with. Of these, the package lender on these figures offers the company the prospect of a higher level of advance. But it may also offer another advantage over the bank in that it really is a single lender solution.

Remember that in order to get to an availability of £270,000 we have had to assume that the bank can provide £50,000 of funding against the plant and machinery through its leasing subsidiary. In practice if the business gets into difficulty, each arm of the bank will tend to look out for its own position. This means that whilst you thought you were dealing with a package of lending provided by a single bank, and whilst some banks do make an effort to avoid this happening, when it comes to the requirement for support to get you through a difficult period you can find that the bank, its leasing company (and its factors if they are involved) are each looking after their own narrow interests rather than the big picture.

BUSINESS BORROWING ABILITY READY RECKONER

To allow you to estimate how much your business can actually borrow from these different sources, the brokerage Creative Business Finance’s ready reckoner is given in Figure 8. By completing this with estimates as to the value of your business’s assets, you can calculate how much you are likely to be able to borrow from a mainstream bank or from asset based lenders.

Remember, however, that you always need to match your borrowings to your business’s circumstances since as discussed in Section A, excessive borrowings (overgearing) can lead to business failure. You should therefore take advice from your accountant or other professional advisers as to your financing requirements and strategy.