Credit, Money Strategy: What About SBA?
The indirect channel’s ongoing embrace of services and move away from warehousing physical products, coupled with downward pressures on the overall economy, have made it increasingly challenging for solution providers to get loan-approval from banks and other traditional money-lenders.
"We are in a fairly esoteric biz and we sell an intangible product. There’s nothing physically shipped," Jim Kurtowicz, CEO of three-year-old Serac Technologies, which provides Oracle services, told Channel Insider. "Our bank is a large, national bank. We went to and talked to some of the smaller banks, which was the suggestion of our bank when we initially began looking at getting a business loan from them. At that point, when we were first looking at those options, we got a similar message: 'Look, you guys don’t have enough business history.’ I was very naïve, when founding the company, in thinking we could get a loan because I have good personal credit."
Unlike retailers which purchase inventory, mark it up and hope to resell it at a profit, a growing number of VARs do not sell any hardware or software. If they do offer product, these items more typically arrive directly at the client’s door. Instead, solution providers’ focus on intangible services—including relatively new concepts such as cloud and virtualization—can make a local loan officer’s head spin in confusion.
That lack of understanding about solution providers’ business, the risks associated with funding any start-up, and a conservative lending market have proven challenging for many new channel businesses hoping to garner funding from local or national banks.
Despite a well-established relationship with the local branch of this national bank, Kurtowicz was unable to secure financing from the institution for the solution provider he planned to found soon after being laid-off from his full-time position at a software firm. Unlike some areas, which are no longer served by small local banks, he did have access to this option. However, like their larger counterparts, local loan officers were equally unwilling to provide unsecured funds to a new company with no financial history, said Kurtowicz.
"We went into the bank and said, "Hey we’re here, give us some money.’ We were met with the reality of, 'If you make it through first two years and you can show you’re profitable and if the economic outlook looks positive, we might consider it,’" recalled Kurtowicz.
Well-established solution providers continue to find funding from traditional sources, despite the poor economy, said Jolea Kidd, vice president of credit and collections for Avnet Technology Solutions, Americas.
"In working closely with solution providers on financing, Avnet Technology Solutions has found that the ability for larger solution providers with stable balance sheets to obtain financing from traditional credit sources has not changed significantly over the past year," she said. "However, Avnet Technology Solutions has noticed that larger banks have become much more selective in providing financing for smaller solution providers with small balance sheets, even if they have strong credit ratings and are in good financial condition for their size. These smaller solution providers aren't capturing the attention of the larger banks, so they are turning to the community banks. While the community banks welcome solution providers with this profile, they are also being a bit more selective than they were a year ago."
Although it provides start-ups with some resources, the Small Business Association had financial requirements that mirrored those of the banking community, said Serac Technologies’ Kurtowicz.
"We did look at, not with a huge amount of scrutiny, an SBA program. The requirements were not dissimilar. There were a lot of controls on it as well. It wasn’t as though there was any free money to be had," he said.
Key to Survival
Access to credit is critical for small businesses’ success, according to financial experts. Without the ability to secure credit, even the best-planned, most well-staffed start-up is more likely to fail, according to Traci Mach and John Wolken of the Federal Reserve Board. Limited access to funds curtails companies’ growth or expansion plans, prevents them from investing in research and development or new employees, and may endanger their ability to meet financial obligations such as payroll, they said.
"We find that credit-constrained firms were significantly more likely to go out of business than non-constrained firms. Moreover, credit constraint and credit access variables appear to be among the most important factors predicting which small U.S. firms went out of business during the 2004-2008 period even though an extensive set of firm, owner, and market characteristics were also included as explanatory factors," they wrote in an August 2011 report.
After the economy soured, banks were less willing to lend to unproven, new businesses—especially those involved in industries they did not fully understand. As a result, solution provider executives typically relied on savings, second mortgages, personal loans, and personal savings to fund their corporate dreams. Kurtowicz, for example, used his severance pay, as well as credit cards, for the down payment for Serac, he said.
"I suspect it would have been much easier to borrow money (a few years ago). It’s entirely possible we would have had much easier access to credit," said Kurtowicz.
Easing the Cash Flow
Like many young solution providers, Serac Technologies was forced to rely extensively on cash during its earliest days. This hampered the company’s ability to grow: In some cases, clients were willing to partially pay upfront, said Kurtowicz.
"In every transaction we did with a customer, we had to figure out, 'How do we pay for this?’" he said. "How do we pay for software that customers are buying?"
Financial relief came in the form of vendor and distributors’ financial programs. National distributors such as Ingram Micro and Tech Data, as well as regional and specialized distributors, offer an array of leasing and finance options, some of which are based solely on the customer’s credit. VARs also may turn to factoring and flooring programs, which often charge higher interest, said Avnet Technology Solutions’ Kidd.
"Generally speaking, our credit criteria and lending standards haven't changed as a result of the economic climate. We have seen increased demand for alternative financing including end-user financing and more recently leasing, but the criteria and lending standards are the same as they were," Kelly Carter, director of credit at Ingram Micro U.S., told Channel Insider. "End-user financing has been a great option for solution providers who may have been hit by the economy."
Increasingly, solution providers are tapping Avnet Technology Solutions’ receivable services program, an outsourcing billing, collecting, and risk-management service that is a "low-cost alternative to banks’ accounts receivable financing or factoring programs," said Kidd. "This program significantly reduces risk for solution providers because they are able to rely on Avnet Technology Solutions' financial strength. Solution providers tend to use the Receivables Services program for larger transactions because they don't have to borrow from their bank/credit to pay the invoices before they receive payment from the end-user," she said.
In Serac Technologies’ case, working with one distributor’s financial group allowed it to build a positive credit history. When the solution provider switched distributors, it received a larger line of credit, said Kurtowicz. Serac Technologies moved to another distributor a year later and once again saw its credit-line grow, he said.
"It certainly wasn’t our strategy for changing distributors, but it was a side effect. We didn’t go to all three and say, 'Who will give us a better deal?’" said Kurtowicz. "We were able to leverage the fact – almost as a selling point to switch distributors – how much they would lend us. We were revaluated with a new balance sheet at each time."
Countering the Credit Crunch
There are steps smaller solution providers can take to make themselves more attractive to lenders, said financial experts.
As they evolve, VAR executives should keep a close eye on their companies’ Dun & Bradstreet ratings, recommended Dave Rhoads, CEO of Blue Street Capital, in an interview. Lenders often look at this type of report, and a favorable rating can make a strong impression, he said.
"In our world, that’s a first look for a lot of these financing companies. Some of them will pull every report under the sun. Some will pull just one," said Rhoads. "The lenders are [also] starting to rely more heavily on Experian."
Unlike personal credit reports which constantly gather information, these business financial reports require that companies self-report their trade lines, he said. Creditors will report missed payments, for example, but it’s up to a business to inform credit-reporting firms about their company’s positive payment history, said Rhoads.
"It’s just being proactive on your business credit. It’s not like your own personal credit report. Unless you’re reporting trade lines they won’t pick them up," he said. "Unless you’re reporting good ones, [only] the one bad one will get picked up."
Business owners must carefully review their company’s credit reports and keep a close eye on their financial dealings—perhaps spending more time on this task than they initially expected.
"There was a stretch for the first 18 months we were in business it felt that finance was what we spent half our time on. In reality it probably wasn’t half that bad," said Kurtowicz.
This focus on finance paid off for Serac Technologies, which has been profitable since its first year. In addition to learning the ins and outs of balance sheets and financial statements, Kurtowicz has forged relationships with the finance professionals at his distributor partners, relationships that help fuel the solution provider’s growth and client relationships.
There may be no free money. But no matter the economy, determined entrepreneurs who are willing to share their balance sheets, research their options, and dedicate time can find the funding they need to finance their business dream.