Secure a Loan for Your eComm Business: Tips from a Chief Credit Officer

The Profit Forecast: Episode #6

Mike Luebbers, Chief Credit Officer at Novel Capital

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‍Ben Tregoe: [00:00:00] All right, Mike. Thanks for joining. It's great to see you again. Yep. Yep. Good. Mike, why don't you give a little bit of your background and what you were doing before Bainbridge and, consulting? 

Mike Luebbers: Sure. So immediately proceeding the consulting gigs. I was chief credit officer at lighter capital here in Seattle, which, where I'm located and, lighter capital is a pioneer in the revenue based financing, mainly dealing with SaaS companies, but a few eCommerce companies as well.

Mike Luebbers: So it was chief credit officer there. And prior to that was chief credit officer at bridge bank down in San Jose, California. Bridge bank is now a division of Western Alliance out of Phoenix. But bridge for those who are familiar does have a pretty decent tech focus being in the Silicon valley.

Mike Luebbers: So spent, you know, the majority of my career all of my career in banking and the majority of that focused on tech lending. Nice. 

Ben Tregoe: Well, this, we have a really big document here. Something that's super important. I think for a lot of founders, right. Is how do you get better credit? How do you get capital, how to get better credit?

Ben Tregoe: And what I'm excited about is to go through this deck. You did a great job of outlining it and just sort of step through the, various sections we can dive in more detail as we go. Sure. But why don't we just like, you know, Kick it off. So with the goals what, are you hoping, you know, a founder would get 

Mike Luebbers: Out 

Mike Luebbers: of this.

Mike Luebbers: Yeah. Yeah. And, just as a reminder, there's, you know, a three part blog that's, up on the Banbridge site. So this outline here basically just follows that, that document, but obviously a lot more detail in that doc. So people should check it out after this or before this, depending on their timing.

Mike Luebbers: But yeah, the goals for today are, really just, you know, walking you through the underwriting process and big picture, you know, starting with, how do you pick the right product, the product that is gonna fit, what you need from a cash standpoint and, the type of product that you're, most likely to qualify for.

Mike Luebbers: And then, you know, in each of those loan product underwriting processes, it can be pretty opaque. So just give a little bit of insight as to what people can expect as they walk through. And in particular, what core info. They're gonna need to compile to get through the underwriting process. And then we'll walk through some, you know some, pitfalls associated with the process.

Mike Luebbers: And then lastly just through my experience this is a little bit self-serving, but you know, the things, just some tips in my career, you know, the types of borrowers and prospects that have, done well just share some of those tips, both in the underwriting process and then even post fund funding on the portfolios.

Mike Luebbers: Nice. Your reporting side. 

Ben Tregoe: Yeah. That'll be super helpful. All right. Well, let's let's jump in. So what's, how does entrepreneurial under better understand the right loan? 

Mike Luebbers: Right. Right. So, you know, the first thing is understanding what you're trying to do with the money. And you know, I, again, should mention Banbridge has the, field guide up on the website that, that explains, you know, the process of, you know, what to do when you're going out to seek capital and how to make sense of all the different loan products.

Mike Luebbers: But first step is just understanding what's, you know, what's your, cash need. And what's the timing of that need when you need the money is it something that you need in a big lump sum or is it something that's gonna be spread out over months and then as importantly what is that money going towards and, you know, how is the cash flow that's being generated from that use of funds expected to roll back.

Mike Luebbers: So that's really important and we'll get into it on the next slide. But step two is then, you know, aligning that expectation that cash need and the expectation of, the cash flow with the different loan structures to, to hopefully match up with the right product. Yeah. 

Ben Tregoe: Let's get into the nitty gritty.

Ben Tregoe: So we, figured out what, it is that we need the cash for. We, have a sense of when those cash needs come about 

Mike Luebbers: now, what? Yeah. So this slide it's, just an example slide. So there are a ton of different loan products and, the focus of the blog post was on what we call highly underwritten loan products.

Mike Luebbers: So those are the products we've spelled down here, but if you refer to the field guide it, gives you the full breadth of, possible loan products. But if you look on this slide, it's, you'll see some, you'll start to see some patterns here on the bank [00:05:00] side, You've got bank tur loans and bank revolvers.

Mike Luebbers: And then kind of on the non-bank side are the rest that are laid out here. And if you go back to, you know what, am I using the funds for? There's really kind of two main categories, either working capital or growth, capital working capital simple example that most DSE commerce founders are, familiar with is paying for inventory upfront.

Mike Luebbers: So that's you know, back to the, kind of the step one, okay. I need it to go buy a bunch of inventory and it's gonna take me about three months on average to, to sell through that inventory and receive the cash back. So that's your cash need and that's your incremental cash flow. So if you were looking on this page, you'd say, okay, well, that's gonna put me probably in the need of either a bank revolver or an ABL loan And the difference there is that, you know, banks are really conservative. So what we added on this slide was sort of. A caveat, which is okay, it's not just what you need and what fits you the best, but also where you are in your life cycle because that's gonna create a different risk profile and it's gonna open you up to, you know, different types of lenders.

Mike Luebbers: So banks are obviously the most conservative they're looking for companies that are well established, profitable, liquid, stable, kind of working capital ratios, basically mature companies. Yeah. Asset based loans, the next line down, you know, same use of funds, but they're willing to take a little bit more risk than a bank.

Mike Luebbers: And we'll get into that more in a future slide. But you know they, have a little bit of a, wider risk spectrum. Some of the other loans types on here are, more for long term. So let's say you're going out and you need money upfront to hire a new VP of sales. Or a whole staff or facilities or systems, you know, something that's more of a lump sum upfront and the incremental cash flow is probably gonna come over a longer period.

Mike Luebbers: That's probably gonna, you're gonna wanna look for a term loan, something that distributes the funds upfront and allows you to pay it back over time. So it's really about matching the source of use. That's what bankers do. And, that's, I think what, you know the, companies should do, the entrepreneurs should do is, you know, figure out the loan product that really matches up with the use of funds and the source of repayment.

Mike Luebbers: So I'd refer back to the, you know, the field guide for more specifics on kind of the pros and cons, but this gives you a flavor. You know, how to kind of match up with, your cash needs in 

Ben Tregoe: the loan products. I there's sponsored focus, bank term loan and venture debt. It, might be helpful. If you kind of gave a little bit of a summary of like, what does sponsored focus mean and 

Mike Luebbers: sure.

Mike Luebbers: What are they doing? Yeah. And I, think in the blog post, I mentioned that these two kind of behave similarly and, the underwriting of the deals is, somewhat similar. The difference is that well, the similarity is that typically you know, a bank sponsor, BA focused bank term loan and venture debt, they're really interested in who your sponsors are.

Mike Luebbers: Obviously they're. So if you are funded by VCs, you know the big name in, in that space on the bank side is Silicon valley bank. They have relationships with all of those different VC firms. And so again, we get into it in a future slide, but. They're underwriting the relationship with the VC as much as they're underwriting the company.

Mike Luebbers: And mainly because the, expected source of repayment is the next equity round. Usually the companies aren't quite profitable yet, so you can't rely on cash flow or the company by themselves to pay it back. So you're really underwriting to the likelihood of the next equity round, where they differ is that venture debt is typically non-bank.

Mike Luebbers: And it's in a subordinated position. So what that means is the bank has the first right to get cash flow and all access to the collateral of the company and a venture debt provider waits for the senior lender to get paid back before they get paid back in a normal course, they might get paid concurrently through normal payments but in a worse case scenario, where now you're, looking to get out of the deal.

Mike Luebbers: And, you know, if it goes down the unfortunate path of foreclosure or bankruptcy or liquidation of the company, The bank's gonna get out first. So venture debt's a riskier instrument and, you know, tends to get priced accordingly. 

Ben Tregoe: I think there's often confusion among founders of what security means and you know, the priority of yeah.

Ben Tregoe: Security and, sometimes, you know, [00:10:00] they believe that they're taking an unsecured loan and they're in fact pledging all the assets of the company and the majority of the assets of the company. Yeah. So, you know, some of the times these products can be stacked together. Other times they're mutually exclusive.

Ben Tregoe: What would be some examples of products that you could use together and ones that would be mutually exclusive? 

Mike Luebbers: Yeah. There, there are, you know, what's called a unitranche facility where you'll get one kind of loan agreement and one security interest. And then the, providers of that debt have sort of a waterfall behind the scenes of where, of how they get paid out.

Mike Luebbers: It ends up behaving pretty similar to, if you just went out and got a bank loan and then turned around and went out and got a me loan or a venture debt loan. But yeah, a lot of times, you know, a bank will be the first to the table and say, Hey, this is great. We like the company, but it's a little bit too much.

Mike Luebbers: We have partners who are willing to take a portion of it. So let's participate on a share and then they kind of work through the, mechanics of who gets paid first. But, to, to your first, the first part of your question yeah, security interest is a legal item, right? And, most cases the lender, whether it's a senior lender or a ventured at lender will be taking a legal interest in all of your company's assets in returns for making loan.

Mike Luebbers: I think where the confusion comes in is that for, a lot of these like VC backed loans, There isn't hard collateral to support it. So there's sort of an UN under collateralized and some people, sometimes people will call that unsecured, but that's more the like reality of, is there collateral hard collateral to support the loan or not versus the legal side of, is there a, security interest or not?

Mike Luebbers: Okay, 

Ben Tregoe: thanks. You make a really good point. I think in the blog about the difference between a lender pitch and the investor pitch, and I think which is really bears some detail, because I think entrepreneurs and founders often are always in, you know, investor pitch mode so, so they tend to default there.

Ben Tregoe: What, do you think are the, what's the key 

Mike Luebbers: distinction here? Yeah, I'm smiling because, you know I'm, a credit guy by trade, which I don't know if my personality got me into it or, the other way around, but, you know, I tend to be sort of. Downside focused. And that, that really is the difference between an investor pitch and a lender pitch.

Mike Luebbers: Obviously as a lender, I wanna know that you believe in your company and, you expected to do great things and that you have a, sound strategy to get it there. But my return is pretty limited as a lender. And so I have to be thinking about, well, what happens if this thing goes wrong? How do I get out?

Mike Luebbers: Or how does the company kind of remedy that situation? So that, that's the main difference between an investor and an equity investor and a debt provider is that equity investors or upside focused and, lenders are downside focused. And everybody knows how, you know, the story on how VCs make most of their return on, you know, a very small subset of their portfolio.

Mike Luebbers: A couple companies go IPO, and that makes up for a lot of the other investments that, you know, maybe. Don't provide much of a return or sometimes a, negative return with, lenders. It's the exact opposite. You know, if everything goes right, you get your, you know, if you're a paying 5% or, you know, if you're a me debt, you know, 10, 15%, whatever, if it goes wrong, you can lose all of your, principle.

Mike Luebbers: And so banks and lenders need to be sure that every loan they make, it has a great chance of, returning a positive return. So the, chart off to the right is just sort of a visual it's meant to illustrate kind of the range of outcomes. So on the equity side, you know, you can have these huge upsides.

Mike Luebbers: Obviously you can still have the, downside, but if you looked at it kind of relative, you'd say, well, there's way more upside potential than there is downside risk. Whereas with the, on the lender side, it's the exact opposite. You know, the upside is just that little sliver above a zero times return.

Mike Luebbers: Whereas the downside is is, you know all, the principle. So how that why, that matters is that when you're pitching you know, a lender, again, you wanna, you want to give them all the upside and, explain to them, you know, how the company's going to perform, but you also have to be really cognizant of how you manage the company and what you see as the risks as a manager and how you kind of mitigate those risks and how you would plan to manage through those.

Mike Luebbers: That's, really what, [00:15:00] lenders are looking for. Right? 

Ben Tregoe: So this, I thought was a good example of like really bringing this to life. You know, I think it's it'd be useful to step through this for founders, you know, to better understand kind of how, you know, where they might fit and how to reposition their pitch.

Ben Tregoe: Not that they want to, you know, tell a totally different story, but you know, to speak more of the lender's language. 

Mike Luebbers: Yeah. And this isn't to say that, you know, in this example that you couldn't get debt. If you were, you know, one of these two companies or you couldn't get equity, if you were one or two of these, but I was just trying to illustrate, you know, that it's, again, one is sort of upside potential, and one is sort of downside protection.

Mike Luebbers: So if you walk through the examples, I wanted to make sure the companies, you know, kind of visually look the same. They're both in, you know, a similar space and, have the same amount of sales per month. But company a probably doesn't have the Tam doesn't have the potential to be huge.

Mike Luebbers: Maybe it's a niche market. They have really loyal customers, stable supply, stable profits, the owners like the company and they're, you know, planning to kind of stick it out. They don't have like these grand plans of, exiting for some huge return. And, you know, company B on the other side, huge opportunity, huge market.

Mike Luebbers: They're growing really quick. The market's growing really quick, but your margins are thin. Your customers are pretty price sensitive, you know, not as loyal. And you're in a growth mode. So as, the owner of the company you're, pushing money into sales and marketing. You're trying to grow the top line at the expense of the bottom line.

Mike Luebbers: So profitability isn't, quite there, but because of that huge market opportunity you, think that there's a great, you know, exit opportunity for you. So I mean, obviously I'm, sort of loading the example, but it's, you know, if you looked at this as an investor, you'd say, okay, company B all day long, but if you're a, if you're a lender, you're thinking I like the predictability of company a I like, yeah, I like the, stability.

Mike Luebbers: I like the predictability. It's probably not something that. You know where execution risk is, huge. Yeah. So it's just an example that, you know we're kind of looking for different things because our return range is, totally different. 

Ben Tregoe: Yeah. I think it's a great point and it's helpful for the founder to kind of rethink their language to, to make sure that they're not giving the signals of high 

Mike Luebbers: unpredictability or yeah, you probably want, they probably want two decks or, at least you want, you know, you probably have a lot of overlap in those two decks, but you probably want a couple extra slides.

Mike Luebbers: In the deck. 

Ben Tregoe: I, think this, slide really resonated with me because, and your section of the blog post I thought was so important and you go through a ton of detail on this, in the blog post, but I think people. They don't really understand the processes that they're getting into. Yeah. So it can feel like, oh man, this is taking forever or am I doing something wrong or do they not like me?

Ben Tregoe: And I just don't think they understand the stages. So it would be helpful I think, to go through this, yeah. 

Mike Luebbers: I, think you're right. And, I've, you know, I've talked to folks who, you know they're, like, yeah we got a debt deal lined up and I'm like, oh great. You've signed documents.

Mike Luebbers: And they were like, no, we got a term sheet. I'm like, okay, that's great. That, means something don't, get me wrong, but it doesn't mean you're, all the way through. And the blog post goes into a lot of detail on, you know, sort of the almost the psychological aspect of it, you know, that there's this push and pull and a typical lender is, you know, at the same time, they're trying to make sure that they don't do a risky loan.

Mike Luebbers: They're also, there's a sales aspect. Right. So they're trying to pull the customer along and keep them interested. They're trying to. You know, assess how the customer's intent. Hey, if I give them this term sheet, are they really gonna wanna go with me? Am I gonna you, if I'm gonna spend all this time and effort on the underwriting, do I stand a good chance of closing this deal?

Mike Luebbers: So it's really this balance of, you know, asking for just enough info to, know, yeah, there's a deal here then a little bit more to say, yeah, I can get to a term sheet then a little bit more and you know, and close the deal. And, I think that can just be, you know, with if you're not a communicative lender, you know, I think that's one of the key points is hopefully you have a good lender who's explaining to you, you know, here's the process from day one.

Mike Luebbers: We're gonna start here and we're gonna go, you know, as long as things pro progress from a risk standpoint we're gonna, we're gonna go from this stage to that [00:20:00] stage. But yeah, otherwise I think a lot of entrepreneurs get confused. They're like, but wait a second. Why? You know I already.

Mike Luebbers: Put my application in why, are you now coming back with a whole raft of, you know, additional info requests? 

Ben Tregoe: Well, who in each of these stages, if you were at a, you know, decent size lender, who might you be interacting with 

Mike Luebbers: at the various stages? Yeah there's there's, actually a stage before discovery and I should, the caveat I was gonna say is that this is, you know, my experience, every lender does it a little bit different, and there are some lenders who are, you know, purposely trying to, recreate the wheel.

Mike Luebbers: It's probably a, blog post in a, in of itself. But there is technically a stage before discovery, which is, you know I, would call it screening and that's usually with either a business development rep or a sales officer at the lender. It's, usually the person who's going out and sourcing the deals.

Mike Luebbers: And there's really, high level. What do you do? What are you looking for? Tell me what your top line number is. Tell me what your bottom line is really, basic information to, to filter a deal and say, yeah, there's, you know, this isn't completely out of bounds. So let's, move into discovery.

Mike Luebbers: What I focused on in the blog post, because it's what I know is when the underwriter gets involved. So that's, you know somewhere in the discovery phase. So, you know, the business development rep has got a loan application, got some high level info. It could be just through the app, maybe there's, you know a, you know, a summary financial statement, but it's really basic unvalidated info.

Mike Luebbers: And they pass that to the underwriter and say, Hey, I think there's the deal. So the underwriter gets involved in, discovery and they're doing a little bit of a deeper dive to assess the loan eligibility. Yes. This meets what we would need to see in order to offer them this particular loan product. And in general, it just, it matches, you know the, downside bounds of our credit box.

Mike Luebbers: So the lift is supposed to be pretty light in discovery. It's meant to, you know, you, you don't wanna waste the borrower's time, the prospect's time, if it's not a good fit. So underwriter typically would say, okay, I've looked at, you know, summary financial information gone through the website, asked a few questions.

Mike Luebbers: Yeah. There's no immediate reason why this, we wouldn't be able to move forward with this deal. And then they take it into the initial analysis, at least in my experience, that's where the bulk of the work is, performed. So that's where you're taking summary info and saying, okay, I got the year end financial statement from last year, you know the, two page PDF.

Mike Luebbers: Now I need every, you know, historical months data for the last two, three years, as much as you can provide, because now they're really getting into the weeds of where is this company heading directionally? You know, it's a lot of trend analysis, sensitivity analysis, things like that. So initial analysis is, really the heavy lift, at least in my experience.

Mike Luebbers: And you're trying to get enough information in to get to a, yeah, we would feel comfortable giving you this loan structure at this price. So that's, you know, the goal of initial analysis is to get to a term sheet and I make, you know, this point in the blog post that A term sheet's not binding it's, just, you know it's, them saying, Hey, we've done enough research to, to say, we think we can get there.

Mike Luebbers: If you're a good lender in my book, you should be able to execute on a term sheet 95% of the time. But you will see people on the market who will issue a term sheet really, early in the process. And you gotta read the fine print in that term sheet, because it'll say at the bottom subject to, and sometimes it'll just be a big word due diligence.

Mike Luebbers: And it's like, well, okay. They haven't asked for much info or I just gave it to 'em and they turned around and gave me a term sheet the next day. You know there's, some healthy skepticism that probably needs to, you know, be taken on, entrepreneurs part as to how we're in the process to get the term sheet.

Mike Luebbers: But like, in my experience, I don't like issuing a term sheet until I know, you know, 90. With 95% confidence that I'm gonna be able to close that deal. So what that means for me is that the, due diligence stage, the last stage is really about validation. So you can think of that as like, you know, maybe I need to have a third party [00:25:00] auditor or appraiser go in and look at the sites and, you know, look evaluate the, inventory, for example I've already done my analysis.

Mike Luebbers: I've, looked at the numbers. They all seem to foot seems to be legit. Maybe I've taken a site visit in, in the old days, you know bankers would go out and, you know, walk through the warehouse. But you still need some, independent kind of validation just like a real estate, you know, a mortgage provider would require a third party appraisal.

Mike Luebbers: Right? So that's, hopefully what happens in the due diligence phase. As well as maybe a few kind of clarifying items from you know, that, that fell out of the initial analysis. Yeah. So that's why I said it's that this is where it gets probably the most murky is in that term sheet. You should see it if it's forward enough along it should say subject to formal credit approval.

Mike Luebbers: And maybe like two or three specifics completion of appraisal validation of, you know, ownership percentage or, you know, very specific and hopefully very few bullet points of what has to happen next. If you see the big, vague bullet points or tons of bullet points, it gives you a clue that there's still a lot of work to do.

Ben Tregoe: Yeah. Is that something that you would a founder would negotiate or would. Just sort of take that with a grain of salt and say, well, maybe I'll try to get a term sheet 

Mike Luebbers: that from somebody that's lower. Yeah. I think it's the latter. I mean, you, you could, you know, I, yeah. If I were in the entrepreneur shoes and you got a term sheet, let's say you, you're going out to three lenders, three competitors looking for the same product, the, all of those lenders are trying to get you a term sheet as soon as possible.

Mike Luebbers: Right. Because they, they know the first one to get the term sheet's gonna get the most attention. Yeah. That could cause some weird incentives where now maybe some, one of the lenders say, well, you know, screw it, but give 'em the term sheet and put in subject to the world. And hopefully they commit to us.

Mike Luebbers: And then we'll, you know we'll, figure it out later. Not the best approach in my mind, but if you're an entrepreneur and you get that first term sheet and it has all that vague language in it, maybe you wanna wait for another one and then kind of compare and contrast. And then at that point, be very clear with both.

Mike Luebbers: Hey, what's the lift here. I've got one over here that looks like I only need to do three things. And, yours is this big amorphous, you know, T V D. Right. So yeah, you know, as a lender, I want especially on the sales side of the house, you wanna know that there's intent to close. So that's a lot of times where, you know, the term sheet will say, Hey if you wanna move forward, sign here and cut us a small check so we can go pay for that appraiser of for example.

Mike Luebbers: So that's where it gets a little bit tricky. It, you know, don't necessarily wanna sign multiple term sheets and cut multiple checks, but again, it's not a contract it's not binding. So that, that is the negotiation. Part of it is, you know, Hey, I'm interested, but I need to know a little bit more of what's remaining in the process.

Mike Luebbers: So probably won't spend a ton of time on this slide. It's this is a summary of what's in the blog post in a lot more detail. But I thought it was, you know, just give an idea of, Hey, at each one of these stages, what are we talking about? You know, I said that the discovery phase is a light lift and, you look at this and you're like, well, there's still a lot there.

Mike Luebbers: I think the intent here is that the, hope is from the lender's perspective that this summary info it as an owner of the comp company, you hopefully you already have a lot of this stuff at your fingertips because you're, using it to run your business. And so that's, you know, that's sort of the common sense approach is in the discovery phase.

Mike Luebbers: It's hopefully stuff you already have. Right. And with that, they can get a sense of, you know the, big picture kind of direction of the company. Initial analysis gets into the weeds. Yeah. And in a, in the blog post and in a future slide here, we talk about, you know, how this could get even more in the weeds, depending on the type of product you're looking for.

Mike Luebbers: But in general, this is where you're, going in, you know, taking an, annual statement and breaking it down to, you know, monthly and looking at all the line items and, using that to kind of build your your, any kind of forecast or sensitivity analysis, 

Ben Tregoe: you know the, discovery phase info requests to me look like if you don't have that, you know you, probably are running your business poorly and you should get that together.

Ben Tregoe: right. Yeah. Even the initial analysis though [00:30:00] you know, I could see, you know, maybe earlier stage, you don't have the depth of accounting and bookkeeping to, to, you know, have some of these reports, but they, shouldn't be huge 

Mike Luebbers: lifts. I, agree. And it's a great point and that's it's, almost I don't wanna say it's a test, but from a credit guys perspective, it is kind of a test, right?

Mike Luebbers: Sure. If, we ask for this info and they're like, okay, give us a month to put it together. You're exactly right. impression that leaves with the lender is, okay, these guys don't have this. Why don't they have this? So right. It starts to create questions. And, yeah on the detail side you know, kind of the same kind of the same take and one of the things, yeah, I mentioned earlier, you know, peop lenders are trying to constantly reinvent that kind of three stage process.

Mike Luebbers: There's no harm in asking a lender for what's all of the info you're going to need in initial analysis when you're in the discovery phase, And either starting to, or if you're really on top of your stuff, give it all at once. I mean, as a credit guy, I love that because now we can actually go all the way through all at once.

Mike Luebbers: And in fact, you know, that when we, in, in another blog post, we'll talk about, you know, kind of the FinTech side of things that's, really, what fintechs are trying to do is they're, going one step further in saying, okay, I don't even want the finished product. Just gimme access to your raw data and I'm gonna plug it into mine and spit out the, finished into my own models.

Mike Luebbers: And so they're trying to do, and that's why they'll say, Hey, I can get you a term sheet super fast. If you just give me access to a hundred percent of your info, you know, and there's, pros and cons there, but that's really what's going on is, they want all the data upfront and then they can use that and, automate some of this and hopefully get to a term sheet.

Mike Luebbers: Much quicker. Yeah. So if you're on top of your stuff and you and, you're dealing with, you know, a reputable lender yeah. There's no harm in, providing them with the, full stack of info earlier in the process it, should accelerate things. Okay. 

Ben Tregoe: So I thought this was interesting too, because, you know, there's all these variety of products.

Ben Tregoe: But some are unique and, will create their own requests. Yeah. Might be helpful just to go through some of the high level. 

Mike Luebbers: Yeah. Again, there's more detail in the blog post, but you know, the first part here is it's, really a repeat of what we said on the first couple slides. Right. Is that to understanding, you know, from the lender's perspective, they wanna understand what their expected repayment source is.

Mike Luebbers: Right. So if it's inventory, it's the sale of that inventory in a three month window, or if it's, you know a, new kind of sales engine. It's probably a longer term incremental cash flow payback. But, it's the same, right? They're, looking for the repayment source and the time horizon to then kind of align it with their product.

Mike Luebbers: And then ultimately as, we've said, you know, it depends on your life cycle. They're, putting this into their credit box. So, you know, maybe they're fine if you're not profitable, cuz they're, you know, they're underwriting to that and they're probably charging a premium because of that. So what we focus in on this slide and in the block post are three specific loans that are what I would call kind of specialized loans.

Mike Luebbers: And it might help to just compare back to bank products. Again, banks always look for two ways out of a deal, a primary repayment source and a secondary. They'll also sometimes have a tertiary, which is, you know, your primary may be working capital. Secondary might be your cash flow from operations.

Mike Luebbers: Tertiary might be guarantor support. So they're looking for companies that are really stable and solid across all metrics and that, and I call that sort of a generalized underwriting process. They're looking at everything and it all has to hit a pretty high bar as a result. They don't have to get in the weeds too far on any one topic.

Mike Luebbers: These, providers, ABL venture debt, mezzanine debt, they are more reliant on a single source, a primary source of repayment. And therefore they do a lot of diligence because, you know the, alternative is if that primary dries up, maybe there isn't a strong secondary. So with ABLs the easiest example because it's It's [00:35:00] I'm, lending you money to go buy inventory because I know what that inventory is worth, and I've seen you sell it and I know how much you sell it for, and I should be able to get paid back in, you know, three months.

Mike Luebbers: So they go to, you know, bedrock when it gets to, you know, understanding the inventory. So everything they're, you know, they're gonna be, they're gonna want every single piece of info that has to do with your supply chain, with your, inventory monitoring systems, your sell through, you know, everything.

Mike Luebbers: And so and, really, I mean, if it helps to think of it this way, an ABL lender also knows how to sell inventory, they have a team or, they have partnerships with liquidators. And so they underwrite to the point where it's, I almost don't, I don't really need the borrower there. If things go that far off the rails.

Mike Luebbers: I know I can go in and sell this at X percent, you know, via some, you know, selling it to TJ max or, some other liquidation channel. So that's how in the weeds they get. The other reality with ABL, which is interesting is it's a highly monitored after the money goes out. So what that means is, you know, if you make if, they expect something's gonna pay 'em back in 90 days and 91 days rolls by, and it hasn't paid back, the structure is built in a way that it's going to kind of tighten and contract to limit their exposure.

Mike Luebbers: So they're getting weekly reporting. They're, you know, getting lock boxes, oftentimes where the money is going straight to them. And then they'll cut you a check back after the, after they pay themselves back there's quarterly appraisals. All these things is, to stay really, Real time on top of that inventory.

Mike Luebbers: And the, so the structure is really adjustable, constantly adjustable based off of the, reality of the day term loans, not so much all the money is out the door. Now they have to wait for it to get paid back. And as long as you're paying, you know, that's that they're, likely just kind of waiting on the sidelines.

Mike Luebbers: So it's a different animal. They they really under need to understand kind of the ultimate repayment source. So with, venture debt, we talked about it a little bit before you're underwriting to the VCs and to their continued support of the company. You're asking them, Hey, what are your funding milestones?

Mike Luebbers: What's what are the KPIs that you're tracking management to. And what happens if they start to get off of those KPIs, what's your response? You'll go even further to, you know, interviewing the partners at the VC fund and understanding how much dry powder they have set aside in their fund to support that company.

Mike Luebbers: So it's very much about willingness to support ability to support, timing, to support level, support, contingencies, to support. That was what I spent a lot of my time at bridge bank, you know, cuz that, that was a focus of theirs was, early and late stage VC lending. So it was all about continued investor support, so different animal.

Mike Luebbers: And, so they're gonna dig in a lot on that sponsorship side. Meza new that lastly is sort of in between, but it's you know, they'll do deals if there's a sponsor, but they'll do it. If there isn't a sponsor. In that case, it's all about cash flow sufficiency. So it's, bottom line, you know, how is this company cash flow and what are the threats to that cash flow?

Mike Luebbers: So I think in that case, it's a lot about execution risk and sort of market risk. So really kind of understanding your niche in the market and, your economic mode. What, you know, what's gonna keep you cash flowing you know, understanding kind of your vendor relationships, making sure that there are no hiccups from a supply chain standpoint, really just making sure you continue to run efficiently and, you're scalable.

Mike Luebbers: And you know that you're, managing that cash flow. So three different products, three different primary sources repay. So you can imagine three different focuses when it comes to the type of info and the level of detail that they're gonna get into. 

Ben Tregoe: I think this is interesting, you know, and I'm sure there's a thousand different ways, but what are some of the top ways, you know, that processes get 

Mike Luebbers: off track?

Mike Luebbers: Yeah, I think unfortunately if let's, assume [00:40:00] it's a good lender. right. So I, spent a lot of time talking to the blog post about if you're a lender who doesn't really know the space you know, you're trying to be a generalist you're trying to, or you're, maybe worse than that.

Mike Luebbers: You're trying to take a company with a short term cashflow need and push it into a long term, you know, cash flow product, you know there's, likelihood that they're going to start, you know, spinning around the axles, right. Get wrapped around the axles. But I was gonna say, unfortunately, in my experience, what tends to cause it is a surprise and.

Mike Luebbers: Sometimes that's a function of, Hey, we didn't ask for this info because we wanted to, you know, keep the lift light, but we need it now. And then you dig into that and you're like, oh there's, a problem. Typically if that happens should happen in the initial analysis. So you're not too far into the process to where it's like, well, you know, crap, I wasted all that time.

Mike Luebbers: The worst case scenario is that you get a term sheet issue, the lender, you know, that 5% confidence, you know, that I mentioned earlier. And usually what that's caused by is, something in the validation doesn't come back the way it was supposed to. So the easy example would be that the appraiser goes in and says, Hey, you know the Inventory wasn't there, or, you know, it was in disarray or it doesn't you know the, inventory system is not tracking the inventory or maybe there is, you know, some sort of licensing agreement that, that wasn't, clear up front and now it's okay. Who really has rights to this inventory.

Mike Luebbers: And is there a concern that the, you know, the supply might get cut off? So I talk about it in a future slide, but, you know it's, there's two types of surprises. There's that surprise where it's sort of, you know, the borrower is well intentioned and it, just, you know it didn't show up until you got some sort of third party validation.

Mike Luebbers: The other is that there's something going on at the borrower level that should have been disclosed, like, you know, a law, a pending lawsuit, or like I said, a licensing agreement that expires next week and. Or, you know, some supply agreement that, you know is, likely to get materially renegotiated, or you're losing your biggest supplier, you know, things like that.

Mike Luebbers: Those are surprises that can derail a deal. And yeah, I mean, I, again, I'm being a little bit self-serving but a good chunk of those it's because we, weren't aware of it because we weren't informed of it. Right. 

Ben Tregoe: So a lot of this actually sounds like it's in the control of the, founder, the entrepreneur, the borrower, you know are, they going with a lender that specializes in their, type of product and their type of business.

Ben Tregoe: And secondly, you know, if there are things in their business that could potentially be surprises, they would be better off disclosing them early in the process, as opposed to hoping it doesn't come up. Yeah. I mean, obviously you can't control for everything, but, you know, if you knew that. In your example, that there was a pending lawsuit or that your, number one supplier was about to leave you, you know, you'd be better off addressing that in your 

Mike Luebbers: backup plan.

Mike Luebbers: Yeah. There's certain things that are out of everybody's control. I mean, we all went through it March of 2020, right. COVID hits. Right. And you're in, the meds of closing Dales and you're like, well, I'm not sure if this company's, you know I, was dealing with SaaS companies. So a lot of 'em were actually benefit benefited from it in a, in sort of a little bit of a weird way.

Mike Luebbers: But but yeah, you know if you have, some sort of external shock like that, then obviously that's, a different ballgame, but I, agree with your assessment. Yeah. A lot of it is, does the lender know what they're doing to begin with? And are you ever you self disclosing. Which 

Ben Tregoe: leads right into this next slide of like, yeah, you know what, are, 

Mike Luebbers: how do you stand out?

Mike Luebbers: So, you know, if we try to tie together some of this stuff, you know, there's nothing in here that's really like, you know an, epiphany, right? I mean, it's all sort of common sense, but the, underwriter is trying to get a sense of how well do you know your, company and, you know, they're numbers guys, right?

Mike Luebbers: So numbers people. So it's, you know, assessing how well, you know, your numbers. And we, just talked about, you know, being transparent. And the last [00:45:00] piece is around the kind of the, what if, right? So that downside planning. So if you do have that, entrepreneur who is, you know, great at rallying the troops and great with, you know, from a vision standpoint, , you know, sometimes you'll have this situation where it's like, what plan B.

Mike Luebbers: There is no plan B this thing's up and to the right, this thing's going to the moon. Yeah. Okay. But again, thinking up, you know, from a lender's perspective, it's, if it hits the moon, lender only makes 5%, 10%. Right. So right. You have to have that sort of, you know, downside story ready. And, you know, having that in the form of, you know, really concrete, backup plans is a great way to yeah.

Mike Luebbers: What, do you 

Ben Tregoe: mean by, you know I, read backup plans and it's it. I feel like you're asking for, you know, 12 page document that outlines plan B, C, D, and 

Mike Luebbers: E I'd say like, is that pages no, I, yeah, no it's, more, I mean, here's how I would type together is if you ask a company, like, what are your KPIs?

Mike Luebbers: And then you ask them, what are your risks? They give you a risk that doesn't tie back to other KPIs, then you're thinking, okay, maybe they don't know their numbers or maybe, you know, their risks are not aligned. And then you get to the backup plan and it's like, okay, what influences that KPI? So if you're really on top of things, those three flow together really nicely where it's, my KPI is, you know, I'm tracking customer churn or, you know, renewal rates on my subscription.

Mike Luebbers: Because you know, I feel like our biggest risk is that, you know, our product set is due for a refresh and there's some new competitors and where we might start to see trouble is, you know, we'll start to see that, you know, renewal rate. And here's my plan, you know and, it's both a forward looking plan.

Mike Luebbers: That's why I need your money is cause I'm gonna go invest in some product improvements, but you know, maybe it's also client success or, you know some other metric that you're doing. So there's that sort of stuff where it's just it's a through, you know, the storyline is consistent through one, two and three, but to answer your question explicitly on, on the downside protection kind of plan B it, really is about, you know, how do I how do I reduce costs if I need to, again, I'm a little bit, you know, my recent history has been dealing with companies that are not yet cashflow positive, so I'm a little bit, you know maybe hyper focused on that, but, you know, I'll spend a lot of time looking at well, what could they do to get to cashflow break even.

Mike Luebbers: and so it's really about, well I can, you know, cut here or I can, you know, maybe whatever sort of marketing events I had planned, you know, I could maybe cut some of those back and here's how I think it will impact future sales. But I think we can get by because we have really good repeat customers, really loyal customers, really good retention rates.

Mike Luebbers: So, you know, marketing, cutting that is more about cutting off future growth, but shouldn't impact our, revenues too much. And by cutting that marketing spend, I can instantly drive, you know, X improvement to the bottom line. So if I start to see, you know, something slipping from, you know, margin perspective, I know I can cut there.

Mike Luebbers: So that's like a simple example of like a concrete action. The harder part that I've found is. When, do you do that? Right. So people have the plan B and it's a solid plan B, but then when you get to that point where the, you know the, underwriter or, you know, I'm thinking now more post-funding, the lender is asking, Hey, you know, looks like you're off on this KPI.

Mike Luebbers: How's that marketing you budget cut coming. They're like, I'm doubling down on marketing because I, think, you know, it's a, I'm gonna be able to get through it because of X, Y, and Z. Those are always, you know, tough conversations to have. And, you know, sometimes it's a really solid plan, but yeah, I think it, it's a tough question to answer, but I, think it's an important part is thinking about when do I make these, you know calls think sometimes just having it sort of black and white, I'm going to do this. If we get to that point and kind of sticking, right. You know, can be helpful. But. This gets into the next slide, but it's, you know, looking at how folks execute through missed [00:50:00] plans. You know, it tells you a lot about, the management of, a company.

Mike Luebbers: And I, think I say in the blog post that, you know I've, had borrowers that missed plan and did all the right things and kind of got through it and were super transparent all the way through that process. Those are the ones that I'm way more likely to continue to support and potentially even give more money to, you know, it's sort of a quid pro quo, you know I'll, do my part, you're doing your part.

Mike Luebbers: So it's, hugely valuable to, you know, to set up those plans and then know when and how to execute to them. These are seven.

Mike Luebbers: Yeah. So I think 

Ben Tregoe: That was a great segue and I, you know, so one way to stay in the good graces is good communication. And having your doing what you say you're gonna do. 

Mike Luebbers: Right. What are some other things? Yeah, I think just the, well I, think first I, frame this kind of negatively and then I try to frame it ly down in the keep in mind section.

Mike Luebbers: So I'll start with that. It's, really important, you know, from a lender's perspective, all this stuff that you're supposed to do after the loan is really important. Now, if you go back to our ABL example, that's an easy one because the lender has the control to say, well you, need to give me a weekly borrowing base and you didn't.

Mike Luebbers: So you're not, I'm not advancing until you. So there's a lot of control that the lender has, but imagine you're in a, on a term loan that's, you know, not supposed to be paid back for three years, you know, once the money's out the door, you'll have certain borrowers will say, yeah, leave me alone. You know, I got what I wanted and I'm paying you back per the plan.

Mike Luebbers: So what else do you care about? And it's just important to note. It's not a mortgage, it's not, you know, especially if it's a cashflow loan or it's, a loan where, like we said, they're under collateralized. You know a, lender needs to understand the, big picture of what's going on with the company to anticipate any, future hiccups.

Mike Luebbers: And that's what covenants are for that's what reporting requirements are for. And so there are teeth in the loan docs around, Hey, if you don't adhere to these, you know, it's technically a default and a lender can do a lot of. A lot of things from, you know, tough to really tough. So that's kinda negative side of it.

Mike Luebbers: That's kind of the stick side of it, but the carrot side of it is, you know, if you are on top of your reporting and you're communicating well with the borrower or with the lender you're, they're way more likely to work with you through an inevitable hiccup. And more importantly or, more optimistically when you need more money because you're kicking butt they're, you know, they're way more likely to, do it with, a much lighter lift because now, you know, they have all the historical data, the underwriting process for a, for an increase or a rate reduction is, a heck of a lot simpler, smoother.

Mike Luebbers: So those are the reasons why to stay in good graces. But back to your, question, you know, it's the same thing staying on top of your numbers you know and, communicating results. And you show that through, you know, being consistent and timely in how you report and, being communicative and, proactive in sharing the news that might not come across in the financial reporting.

Mike Luebbers: I think 

Ben Tregoe: one thing that, I mean, we've all heard stories. I certainly have, you know of, borrow tripping covenants and having really bad outcomes, you know, cash leave basically being put out of business or really difficult circumstances. And I think, you know, one thing that I don't think borrowers or founders are cognizant of is how important these covenants are and that, you know, what a, a chain of events happens, right?

Ben Tregoe: Like you trip a covenant or, you know, go into some sort of technical default. And all of a sudden you are now really at the mercy of, the lender. Yeah. It's up to them to decide how aggressive and severe they want to be in the enforcement of those things. Right. So like, that's just a bad position to be in the first place.

Ben Tregoe: Right. You don't want to ever be like, you know, at the mercy of somebody else's kindness 

Mike Luebbers: Or 

Ben Tregoe: you know, forbearances right. And then I think the [00:55:00] other thing that is often lost and you made this point just a minute ago is like these aren't mortgages right. Where it's very anonymous and, you know, I just gets the money gets taken out of your checking account and whatever.

Ben Tregoe: Right. You know, these are people at the other end and people are gonna make judgements. And if you don't do the effort to build that relationship it's, way easier for the person at the other side of that, to make a judgment against you. That's not in your 

Mike Luebbers: interest. Right. And I, so I it was they a little hidden reality that, you know, I would, wouldn't always get brought in on a, you know, a tough call with a borrower, you know, that was in default.

Mike Luebbers: But on the ones that I would, there were two outcomes. There was, you know, the one where they, you know, it wasn't a good con conversation either because they, weren't communicative or they didn't have a plan or, you know, they were trying to shift it off on, you know, just leave us alone. And the other half was, you know, they had a great plan and they were super proactive and everything was logical of what they were trying to do.

Mike Luebbers: And you could tell that they were, you know, trying to work through it. And they, hidden kind of secret was that I, would go to bat for those companies, the latter academy. Right, right. Because you know, it, we are just people and, you know, shit happens. So. 

Ben Tregoe: Yeah, well, and you don't want, nobody wants to go into a 

Mike Luebbers: default.

Mike Luebbers: I mean, and I mean, I think the broader point, and this would be probably a, you know a, blog post of its own would be around, you know that's, where kind of reputation of the lender comes into play because there are certain lenders that are, I don't wanna say predatory, but there, there is an expectations in a certain level, it's like the lender of last resort.

Mike Luebbers: And that can be a good thing by itself. So again I'm not trying to denigrate it as long as both sides kind of know what's going on. Right. Which is, Hey, I need this. And I understand if this doesn't work out, you're gonna take some pretty strong actions. My point though, is that, yeah, there are some lenders in the, particularly in those situations where it's like, if you break a covenant, you, this is where it's going.

Mike Luebbers: Right. We're going to take pretty active control. And that could be, yeah, that could include fore closing. Yeah. You know if you're a bank loan or if you're a, you know, kind of relationship focused lender you're, probably not set up to do that. Plus you're worried about your reputation, you know, in the marketplace.

Mike Luebbers: And so you're much you're way away would rather, you know, you'd much prefer to have the borrower work their way out of it than have to take the reins yourself. You know, I'm not to run in a company or, liquidating a company so way better to kind of cooperate. And so for those lenders you know, covenants are, important, super important, and they do allow that backs up to lender.

Mike Luebbers: But first and foremost, they're an opportunity to get back to the table and discuss what's going on and, kind of work through it. 

Ben Tregoe: I think, those are great points and that the one that I would add to that is in that. well, we have customers sometimes when they discuss covenants, it's UN you know, they maybe haven't spent the time thinking through those covenants and the implications of breaking them, you know?

Ben Tregoe: Yeah. And then they also, I don't think have a full understanding of how to fulfill those covenants. And I, that I think is another area where it's worthwhile before you sign to really like, how do I fulfill this? What are you expecting? You know, let's go through some examples so that you don't get into a situation where in month one, you're like, oh, you've already broken a covenant.

Ben Tregoe: And now you're like, you know, a strike down and you haven't even gotten 

Mike Luebbers: going. Yeah, no, it's a great point. And, it gets to back to a lot of things where you're saying upfront about like how, well do you know your numbers? So you have to know your numbers really well in order to, you know, assess whether or not you're gonna be able to adhere to a financial covenant and.

Mike Luebbers: You know, sometimes they're set pretty simply, but most times the lender has forecasted out what they expect to happen and they do their sensitivity analysis and say, I can still get out, even if they're off plan by X amount. So I'm gonna set the financial covenant right. To that point. So now I'm back at the table, but I also kind of know it's not too late, that the company could kind of, if they stabilize from that point forward, you know, I'm still gonna get out of the deal.

Mike Luebbers: Okay. So yeah it, behooves you as the entrepreneur to understand what they're looking at as you know, to, to drive that, model, that forecasting. [01:00:00] And if you've already done your own forecasting and your own sensitivity analysis, not only are you gonna be much better at, coming up with your own plan, BS and C.

Mike Luebbers: You're gonna be better at negotiating the covenants with the lender. And in, like I said earlier, you're probably gonna impress 'em to the point where they either don't need the covenant cause they believe in you or they kind of defer to you on where to set it. Yeah. So interesting. It just a lot of positive feedback that happens if you're on top of your numbers and, take the time to do your own, you know, kind of modeling and forecasting.

Mike Luebbers: I mean, I, you know, again, it's, that's tricky for a really small company obviously, but you know, abridge is a good source for, you know, a way to kind of drive people on that direction. Yeah. We have somebody you can help. Yeah. 

Ben Tregoe: Well, this has been great. That leads us, you know, I think into the end, which is you know, and I'll do a little bit of plugging here for Banbridge, but a lot of what you described as stuff that we can help.

Ben Tregoe: You know, customers with and is stuff that we've already helped with, particularly around getting the numbers together, the projections, the, what if scenarios, the financial packages. And then, you know, I think another great thing about what Bainbridge does is that we're lined up with people like you, you know, that can provide the real, other side of it, you know and the in depth, knowledge and feedback to make sure that people are thinking about the processes correctly and, maximizing 

Mike Luebbers: their chances of success.

Mike Luebbers: Yeah Having, I mean, even if it's a summary access to, you know, the information that you guys are able to provide not only would it speed up the process, but it, would be a huge value to somebody on my side of the table, just, you know, to be able to see that, different kind of scenario planning and know that, you know, real time it can be adjusted and adapted to, you know, what's going on in the world.

Mike Luebbers: Nice, 

Ben Tregoe: Mike. Thank you. Look forward to talking again soon. Really appreciate your time.

Mike Luebbers: Yeah, absolutely. Take care.