FINANCE APPLICATION & LOAN FACILITATION

By Kobus Oosthuizen • July/August 2017 • Issue 56

Why is funding such a challenge? Procuring business funding is a challenging prospect at the best of times and, ironically, the smaller the amount, the longer the process seems to take.

The rules of lending do not change proportional to the size of the loan — it is still ‘other people’s money’ and the same due diligence process must be followed. All funding institutions have a marketing function tasked with bringing in business and creating a certain level of expectation. Paradoxical to that we have the credit function whose sole reason for existing, it would seem, is finding reasons not to approve loans.

It’s important to understand that financing a business is different to financing a house or a car where the funder remains the ‘owner’ of the asset until it is paid off and should the client default on their repayments, the intrinsic value of the asset will provide assurance for the funder.

While the rules of funding in the franchise space differ somewhat from those applied to independent businesses, the process is similar. With business funding, the assets funded are generally either specialised or intangible — meaning that there is almost no resale value in them. The most effective, and often only, way for a funder to reach a decision, is to take a view on whether or not the business will be able to afford and sustain its loan repayments. If a business is not able to service its repayments, even if the funder were able to secure a bond over the movable assets of the business, it would be worth almost nothing in the hands of the funder.

Commercial funders (i.e. the ‘big four’ banks) generally require alternative tangible security in addition to the assets of the business. Tangible security constitutes assets that can be bonded by the lender, i.e. assets where ownership in title can be transferred in case loan obligations are not met. Personal surety, even when offered by a wealthy person, is not regarded as tangible as their financial position could change over the time of the loan. It is unlikely therefor that applicants with smaller own contributions and thin balance sheets would be successful in procuring funding from commercial banks.

It is in this low security environment where the development funders who are mandated to assist entrepreneurs with little or no security to offer, usually operate. With nothing else to fall back on should the business not be able to service its debt, it makes sense that development funders spend even more time assessing the potential viability of a business and the experience and skills of the operator.

For development funders the franchise sector with its existing and proven business systems is an attractive option, but having said this, relying on a franchised business system may be a double-edged sword. If the franchisor proves unable to sustain its own operations and is removed from the equation, the franchisees who relied on the support promised to them will be doubly vulnerable.

The South African franchise landscape is littered with failed concepts and it is up to would-be franchisees to protect themselves through meticulous research. For better or worse, existing franchisees are, without a doubt, a franchisor’s best reference. It is also the reason funders place a considerable premium on the success of current franchisees within any network.

Every funding application is different. With vehicle finance there are two key principles driving a credit decision — 1) Does the applicant have a good credit record? and 2) Can the applicant afford the repayment? Besides ensuring that the asset is properly insured and registered, there is not much more to it and that is why an approval can be procured in as little as an hour.

Funding a business is a completely different ball game. The impact of all the various risk elements makes for a complicated decision matrix and many factors impacting the assessment are purely subjective. When we then add humans to the mix, considering that it is rare indeed for any credit committee to be in absolute agreement regarding what constitutes undue risk for any given transaction, reaching consensus becomes even more difficult.

There are also a number of absolute factors that will disqualify an application irrespective of any other factors — below we list some of the most common, per se, disqualifying factors we have encountered in the development funding arena.

While the availability of tangible security may impact on a credit decision if any of the above-mentioned factors are present, for any responsible lender the availability of security will never override a weak business case.

Borrowing money for the purpose of establishing a business remains a frustrating affair and waiting weeks only to be confronted with a ‘no’ can create all sorts of complications, especially when commitments to landlords, staff and franchisors have been made. Through the ten years that SA Franchise Warehouse has been involved with loan origination, our strategy is always to assess all assumptions and identify the reasons why a loan may not be approved. Through addressing these expectations, a high level of successful applications can be achieved.

Disqualifying factors encountered in the development funding arena:

An operator/owner with no prior experience in managing a similar business, especially in the food and beverage environment where the investments equired are substantial.
For social reasons, funders will not accept security offered by elderly individuals associated with the applicant, where the related assets represent a substantial component of their wealth.
Applicants with a history of recurring credit card, short term or cash loan type debts or undisciplined financial behaviour, i.e. living now on next month’s salary.
If the proposed business is unlikely to support the operator’s/owner’s current lifestyle.
Applications where projected turnovers are not supported by current franchise network turnovers in similar demographic areas.
The applicant’s own contribution is not unencumbered or available on demand.
Debt propensity score — this score demonstrates how likely an operator/owner is to compromise their own position in favour of creditors.
Where shareholders in the business have substantial debt in relation to their assets — this will present a problem should a shareholder be sequestrated.
No funder will advance a loan to an existing entity without Audited Financial Statements to confirm the entity’s debt-free status. The most effective way to mitigate this is to apply in the name of a new entity with a registration number less than a year old.
Although the franchisor has no legal obligation to assist, or to be seen to assist the funder, the franchising industry is small and a brand’s ‘debt write-off’ history will follow it for many years. Franchisors who display a tendency to ‘walk away’ from a franchised business in distress rather than cooperating with funders to limit the potential financial loss through relocation assistance, re-use of equipment in the group, etc. are a no-go.
Numbers that don’t add up — based on turnover assumptions, gross margins and overhead costs, certain businesses simply will not be able to afford the level of debt being applied for. Experienced franchisors typically require a 50 percent unencumbered own contribution as most new businesses will not be able to afford the repayments on loans exceeding 50 percent of the establishment cost.

Disclaimer: SA Franchise Warehouse is not associated in any manner to any of the brands listed on this website apart from listing details of their respective franchise opportunities. We do not underwrite their viability as a business opportunity nor the quality of the service or products offered by their franchisees. Any complaints need to be directed to the franchisors directly.