An Asset Based Lending "FAIL"

It's not very normal to write about a funding failure, but there was a good lesson I learned in a recent effort, that I thought I would pass on.

A very good and respectable business brokerage group had found a buyer for a long established manufacturing firm here in NE Wisconsin. The trouble was, despite having good credit and an excellent industry background, the buyer couldn't find a bank willing to finance the purchase. Can't really blame the bank, as this particular business had been hemorrhaging money over the past decade. Once the world leader in its niche, the business was a shell of its former self. Not a lot to work with there, at least in terms of traditional financing.

But the buyer had a turn-around plan. The seller was pleased someone was interested in the business and was willing to consider a percentage of seller financing, but obviously wanted as much money as possible.

The solution we usually offer in this situation, is what is known as a "sale-leaseback" of the equipment. For those of you who don't know what that is, it is this: Basically, an investor who is comfortable with a certain industry will order an appraisal of the company's equipment. They are interested in the stuff that companies use to make, move, or process other things with. In established companies, that stuff is usually paid for, an asset.

Now, this company did have in hand an older appraisal from a couple of years ago; at that time, the value of the "stuff" was set at about two million dollars. Now, you would think that, ok, there is decent value for this company's "stuff", and no matter how bad the economy is, and how poorly the company was doing, you'd think its gotta be worth at least half that, right? That was my assumption, the assumption of the buyer, and the assumption of the seller. We figured we'd be able to work it out.

Now, A sale-lease back lender uses a formula something like this; if something is worth say a hundred thousand dollars given a normal time frame to sell it, (industry term: "Orderly liquidation value"), it is probably only worth 50K if it was hauled off to an auction ("forced liquidation value").

That is the number this type of lender will use as a value. Then the lender will purchase the equipment at a percentage of that value - which can be 50 to 80 percent. There is the money for for seller. Then the lender will turn around and lease the equipment to the buyer until the lease term is up, and when that happens the buyer owns the equipment. In the meantime, the buyer is paying the seller in a separate note for the difference. Everyone is happy, including me, who arranged it all, and earned a tidy fee for my services.

Then the appraisal came back - oh, how can I put this nicely? - completely in the toilet.

The value of the equipment, due to its age and to its custom nature, wasn't even 1/10th of its former value. The buyer backed off, because he realized he may be overpaying for the business. The seller backed off, because if immediate capital was the goal; they realized they could probably do better closing the business and hauling the equipment off to an auctioneer. You have to feel for the poor business broker, too, who brought the two together, suddenly realizing that perhaps he had a business that he couldn't sell to anyone, that is,unless they were independently wealthy and a glutton for punishment. Pity poor me poor me too; who lives for getting good things done and helping people, and being a hero, well I had ultimately helped no one. As my kids put it; this was a complete FAIL.

The lesson I learned; equipment is not equipment is not equipment. A bulldozer may be used by any number of entities across the US. A specialty piece of equipment, no matter how wonderful, or originally expensive, or functional - is just that, a specialty piece, and likely won't be of much value at all, in an asset based lending deal.