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Q: Our bank requires a loan agreement as a condition for along-term loan to our sports memorabilia store. What gives?
A: Welcome to the big leagues. With term loans, banks imposeconditions--called covenants--on your future operations. Theagreement states your rights (few) and your obligations (many).It's the real game and wipes out all verbal understandings. Theagreement may not fit all business. Three key points toremember:
1) Terms are negotiable only before you sign.
2) Never accept unreasonable conditions.
3) Never sign anything you don't completely understand.
Get a draft of the agreement. Take it home. Read it carefully.Ask your attorney and CPA to coach you. Don't agree toprepayment penalties--except for SBA 504 loans. Don'tagree to maintain compensating account balances. Never signan agreement with a deemed insecure clause. This clause letsthe bank call for payment at any time.
Don't agree to a balloon note that mismatches yourrepayment ability with the bank's repayment schedule. Balk atany requirements differing from prior discussions. As collateral,pledge specific assets--not all current and future assets to benamed. Pay particular attention to the personal guarantyform and the rules under which the bank can call on yourguaranty.
The cross-default and cross-collateral clausesroll all your present and future loans with this bank into oneloan. Default on one and you default on all. In the future, you maywant to seed your loans among several banks.
Negative covenants list what you can't do without thebank's waiver--for example, sell the business, buy assets, signlarge leases, borrow more money, change management, or paydividends or management bonuses. Positive covenants tellwhat you must do--like maintain specific financial ratios, submittimely and accurate financial reports, carry life and casualtyinsurance and more.
Can you play the game? Match the covenants against youroperations for the past two years. Did you do anything that is nowbanned? Can your team produce the required reports? Could you havemet the required financial ratios? Based on your financialprojections, can you meet them in the future? If not, call time outto renegotiate.
George M. Dawson (gdawson@txdirect.net) is asmall-business consultant and author of Borrowing to Build YourBusiness: Getting Your Banker to Say "Yes." (UpstartPublishing, $16.95, 800-235-8866). Send him your financingquestions at bsumag@entrepreneurmag.com
