B-B-Bad To The Loan

Entrepreneur, Feb, 2000 by David R. Evanson

Rough roads ahead have you fearing a loan default? Here are some ways to bargain with your banker.

When Mike Schwartz, 40, walked into an ailing Harley-Davidson motorcycle dealership in 1992, he could smell the opportunity. The dealership was located in a part of Wilmington, Delaware, that had seen better days. And when he was told the bike he ordered would take two years to arrive, it was clear service was a problem. Management, a throwback to an era that owed more to the racing circuit than the business circuit, didn't seem to have its heart in the business anymore. Schwartz told the owner to contact him if he ever wanted to sell.

Two years later, in the winter of 1994, Schwartz got a call from the owner, who was ready to unload the business: Schwartz bought the company, which consisted of a note from the seller and about $300,000 in equipment and inventory, for less than $1 million. Working as both owner and general manager, Schwartz returned the dealership to robust health within a year and a half, a period during which the Harley nameplate enjoyed a popular resurgence.

But he didn't have long to rest on his laurels. His lease was set to expire, and Schwartz was about to make some big decisions.

Rather than staying put, or moving to the other side of town, Schwartz set out to create a "destination" dealership. To realize his vision, Schwartz bought land in nearby New Castle, Delaware, razed the existing buildings, and started building from the ground up. The result was Mike's Famous Roadside Rest, a 42,000-square-foot complex complete with a restaurant, dealership and museum, all just off the main artery of the northeast corridor of Interstate 95.

And a "destination" is exactly what it became. On some weekends in the spring of 1999--the dealership's first spring season since completion--upwards of 5,000 Harley faithful (as well as the merely curious) made the pilgrimage to Mike's Famous to bask in the glow of one of America's great cultural icons.

NO GUTS, NO GLORY

But vision takes guts. Schwartz displayed his by taking out a $6 million loan from the financing arm of Harley-Davidson to bring his vision to fruition. And while things look great today, that can change overnight, and Schwartz is well aware of the risks. "Harleys," he says, "are essentially a luxury item, not a primary means of transportation. Rises in interest rates or a change in economic conditions could significantly change the demand for our product." Or, he adds, the cyclical nature of the market could turn against him before the business is ready to handle it.

So what happens to entrepreneurs who take out a business loan under one set of circumstances, only to have things turn bad down the road? Do they have to lose their business? That depends on how well the entrepreneur manages the process of a so-called loan workout with the lender, says A. Barry Cappello, a borrower's rights attorney in Santa Barbara, California, who has more than 19 years' experience representing businesses.

PREP TIME

Cappello says that approaching the bank about a loan workout assumes the bank is ready to deal when you're in trouble. Unfortunately, what you may find when you inform your lender you're anticipating money problems is that the bank may call in your loan early. If this happens to you, a loan workout is probably no longer an option and you may have to seek a legal remedy against your lender to protect yourself.

In truth, however, most lenders don't want to foreclose on a loan. A foreclosure involves litigation. There may be environmental liabilities involving repossessed property. Collateral will have to be sold at fire-sale prices. Indeed, the situation can be a lot harder for the bank than simply working out new terms with the borrower.

Before even suggesting a workout to your lender, however, you've got to decide whether the problem that's making your loan difficult to repay is temporary or permanent. If the problem is permanent, the workout may not help, and bankruptcy may be your only alternative. But if the problem is temporary, you've got wiggle room.

The first step in the process is to meet with the lender to let it know you see a problem coming and that some changes to the loan will be necessary to prevent the situation from getting worse. "It's important to talk to the lender as soon as you can," says Cappellou. "Obviously it's better to see a tidal wave on the horizon than it is to see it on the beach."

Letting the lender see the stark reality, however, might spook it into moving against you. Cappello suggests two strategies to prevent this.

First, let it drop in the initial meeting that you've met with counsel, and based on financial projections, he or she thinks a workout is viable. It's the old velvet hammer. "Basically," says Cappello, "by meeting with counsel and letting the lender know it, you're telling [the bank] you have the ability and the inclination to fight a foreclosure."

Now that you have your lender's attention, it's time for step two: Bring to the meeting a financial forecast showing what sales you expect the business to generate during the next year or next several quarters, how you plan to cut back on costs and how the bank can help. And don't forget to document your financial assumptions with footnotes.