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Busting Major Alternative-Lending Myths

Unique problems require unique solutions. In construction, that means certain projects can require alternative methods of financing.
By Warren Miller, CFA
June 18, 2024
Topics
Business

Alternative capital is a broad term for financing provided by institutions or firms that typically fall outside of the purview of the larger, regulated institutions (i.e., not traditional banks). While these funding sources may not always be the first option for many businesses, alternative lending is a perfect option for many small and mid-sized capital-intensive companies, like construction companies, which often require fast access to capital that is incompatible with the stringent and laborious processes imposed by traditional banks.

Construction companies should take a closer look at alternative financing, understand its benefits, and evaluate its usefulness for achieving their unique funding requirements.

REALITY 1: ALTERNATIVE LENDING IS SAFE AND PROVEN

Private lending has been around for a long time, and has become increasingly common since the 1990s, when major consolidation took place in the banking industry. As the large, consolidated banks set their sights on providing loans to large enterprises, they left a gap in the small and mid-size market that was filled by alternative lenders. By 2000, alternative lenders had overtaken traditional banks for the majority of corporate loans. Stricter regulation of banks following the Global Financial Crisis of 2007 intensified underwriting standards for bank loans and further diminished banks’ appetites for SMB lending.

In 1994, banks were responsible for over 70% of primary market corporate loans, but over the last two decades the balance has flipped and non-bank lending now represents the majority of the market. Many borrowers have learned the hard way that today’s climate of rising bank interest rates has made banks increasingly conservative and rigorous with loan applications, underscoring the value of more nimble offerings from alternative lenders.

There is nothing new about alternative lending, and it is an especially strong option for small and mid-sized companies.

REALITY 2: ALTERNATIVE LOAN APPROVALS ARE FASTER AND SMOOTHER

The federal government forces strict underwriting standards for bank loans. In the past several years, the application process for these loans has become increasingly rigorous and the time it takes to obtain approval has become more and more protracted.

Not so for alternative lending, which is subject to comparatively few government mandates. Many executives at small and mid-sized businesses are surprised to find that alternative financing is readily available with a much simpler, easier and faster application process. Companies that may have had bank loan applications rejected because of covenant issues, poor ratios, challenged historical performance or lack of profitability can often gain approval from alternative lenders—especially if the borrower can leverage its off-balance sheet equity in its capital asset collateral like heavy equipment or real estate.

REALITY 3: ALTERNATIVE LOANS CAN MAKE FOR SIMPLER COMPLIANCE AND REPAYMENT

Government underwriting standards often force banks to impose rigid financial and reporting covenants upon their borrowers, with strict loan-to-value and cash-flow parameters that must be documented and maintained throughout the life of the loan. These covenants can make it very tedious for the borrower, adding a layer of work that is time-consuming and distracting.

Asset-based alternative lenders, in contrast, are able to underwrite the equity of a company’s asset collateral rather than focusing solely on the company’s cash flow and historical performance and/or financial ratios. This is a great advantage for construction companies, which are asset- and capital-intensive by nature, with lumpy or seasonal cash flows. Focusing on the equity in these assets allows lenders to offer simpler, longer-term repayment structures and minimal covenants compared to traditional bank loans. Asset-based alternative loans are also typically non-dilutive with zero impact to the owner’s shareholdings.

REALITY 4: ALTERNATIVE LENDING IS APPLICABLE FOR MANY BUSINESS SITUATIONS

Many people equate alternative financing with distressed lending. While asset-based alternative lending is excellent for distress recovery and restructuring, due to its ready availability even when historic financials or cash flow have posed concerns for traditional lenders, alternative financing is also a valuable strategy for a wide range of business needs:

  • Accessing additional equity to assist with new asset purchases
  • Investing in growth initiatives
  • Leveraged finance transactions such as shareholder or partner buy-outs
  • Leveraged buy-out or acquisition of a new entity

Asset-based alternative financing can be an appealing financial tool for construction companies that need reliable and expedient access to capital.

These loans are designed to address a variety of capital challenges, including short-term liquidity, balance sheet restructuring, M&A financing and investing in rapid growth. Construction companies would be well-advised to work with a proven alternative financing provider who understands their assets and balance sheet to ensure they have ready access to capital whenever they need it, especially when traditional bank loans prove to be too inflexible and slow.

by Warren Miller, CFA
Warren Miller is a chartered financial analyst with over a decade of asset management and underwriting experience. In his role as VP and managing partner for Travelers Capital Corp., Warren and his team are experts at developing tailored asset-based loan and lease solutions to midsized companies facing a variety of funding and cash flow challenges. Travelers Capital Corp. is a member of the Travelers Financial Group of companies, with over 40 years of asset-based lending experience. https://www.tccfinancial.com/

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