Page 204 - Finance for Non-Financial Managers

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Financing the Business
a term loan on business real estate. The owner of a company
wanting to buy or build a factory to make its products can file
an application with the SBA or, more commonly, any of the 185
hundreds of banks designated “preferred SBA lenders.” A small
business owner typically has a good chance of obtaining such a
loan, provided the company meets the bank’s own lending stan-
dards, such as having collateral for the loan, an apparent ability
to repay the loan in accordance with its terms, and so on.
Interestingly, interest rates today are about the same as typical
bank lending rates, or even a bit higher, despite the fact that the
SBA guarantees the repayment of up to 90% of the loan, mini-
mizing the bank’s risk. Most authorized banks will assist busi-
ness owners with their application or refer them to independent
“loan packagers,” who will complete the lengthy application
paperwork for a fee, including helping the borrower understand
things like cash forecasts and balance sheets.

Convertible Debt—The Transition from Debt to Equity

When a company needs to raise cash, there is always at some
level the initial choice to be made: do we borrow money or do
we sell stock in the company? Borrowing costs money in the
form of interest payments, but selling equity dilutes the owner-
ship interests of the present stockholders. In a period of eco-
nomic misfortune, a company might have to sell a substantial
piece of ownership to raise the money needed, while adequately
compensating investors for taking the risk. Yet management
doesn’t want to be saddled with interest payments for a long
time, particularly since a down time for a company usually
means the interest rate it must pay to attract lenders is also
high. What to do?
The answer for some companies is to sell debt that can be
converted into equity at some point in the future when it’s
mutually beneficial to both the company and the lenders. This
financing tool is called convertible debt or convertible deben-
tures. By any name, a convertible bond is an instrument that