Warehouse Credit Lines: How Does the Current Crunch Affect Basic Funding Options?
by Peter Eaton March/April 2008
In these times of uncertainty with banks becoming tighter with money and terms, one has to wonder the effect this will have on the basic tenants of leasing, including warehouse lines of credit. OFC Capital’s Peter Eaton discusses the future of lessor funding.
In its Senior Loan Officer Opinion Survey on Bank Lending Practices released in January 2008, the Fed reported that financial institutions are lending less money on stricter terms than at any time in the past 17 years. While a significant part of this credit tightening is related to real estate, a third of those banks reporting have instituted stricter standards for their commercial and industrial loans, the highest rate in more than five years. One thing is certain; we are in another economic cycle. When the economy is growing we think it will never end. Now that the economy is contracting we think it will never recover. The resilience of the U.S. economy tells us that we will recover from this in time.
The question remains how this tightening of the money supply will affect those providing credit facilities to the equipment leasing industry.
One of the fundamental ingredients for the continued growth of a successful equipment leasing company is access to financial products and resources that enable that growth. A warehouse line of credit has always been an integral part of the financial foundation of a successful and growth-oriented equipment leasing company.
Brent Hall, CEO of Pinnacle Business Finance states, “A warehouse line of credit is a crucial piece of the funding structure as it allows for expanded capability in which to fund a transaction and then aggregate pools of transactions that can be placed on a permanent line or sold in portfolio. Most permanent funding facilities are not structured to accept individual transactions but rather pools or blocks of business and as such, unless you maintain significant internal cash that you can use for funding, a warehouse line is imperative to making a portfolio retention or sale effective and efficient.”
This financial product and other resources should be provided with outstanding service that responds to a business’ needs in a timely manner and allows the equipment lessor to take advantage of new market opportunities. For many equipment lessors, finding that kind of relationship in a market facing significant credit challenges is not easy.
For the past several years, there has been adequate liquidity in the marketplace to meet the needs of most successful equipment leasing companies. Given the current state of the economy and the financial markets that availability has changed. The subprime mortgage crisis has led to banks tightening their lending guidelines for commercial loans and raising the cost of credit lines. For small- to mid-size equipment lessors, a challenging future awaits.
While today’s economic climate contains challenges for the lessor, it is also presenting challenges to funders who provide warehouse lines of credit. Ron Lear, who directs the warehouse lending unit of PFF Bank & Trust, sees increasing pressure on lessors from permanent providers to omit using the warehouse line and fund directly into the permanent line. John Dale, COO of FirstLease, sees an upturn in demand, and is cautiously optimistic about business volume this year. He feels the biggest challenge is directed by the market and the long-term fixed rates that may be well below prime for qualified borrowers.
Both Lear and Dale noted that, especially in this current market climate, finding ways to service the smaller broker/lessor who has limited credit and collateral is a real challenge. At OFC, we continue to try and find the right mix of risk and opportunity to assist these companies in moving forward in their growth plans.
As a result of the growing credit crunch, for those of us providing warehouse lines of credit, we have increased our due diligence both in new applications as well as monitoring the existing portfolio.
While we have seen these economic cycles in the past, no one can predict the length and breadth of our current credit crisis. However, this is exactly the time that companies with a solid capital base, experienced management and a well thought out business plan can find new opportunities for continued growth.
Successful leasing and finance companies have traditionally used a combination of short-term debt, long-term debt and subordinated debt or equity to fund their corporate growth. A short-term warehouse line of credit provides funds to temporarily finance a lessor’s lease and loan receivables prior to obtaining permanent financing. A warehouse line of credit provides several benefits to the lessor. Most notable of these benefits are: ability to manage your cash and leverage, increased flexibility and control of your portfolio, improved service to your lessees and vendors, and increased profit margins.
Having the flexibility that a warehouse line of credit provides, the creative lessor has a source of funds that allows him to penetrate new markets, respond to a vendor’s unique payment schedules and drive business through new opportunities.
The process of using a warehouse line of credit is basically straightforward. While each funding source will have additional elements to their program determined by the lessor’s financial strength; the basic format is as follows:
The funding source extends a line of credit to the lessor.
The term of the line of credit is traditionally one year although a longer term may be negotiated.
The advance rate on the line varies from 75% to 100%. This may be based on original equipment cost or a present value of the lease receivable.
Each advance on the line must be cleared or placed with a permanent funder, usually within 180 days.
Each advance must show vendor payment.
A funding source may also require that the advance request show credit approval from the permanent funder.
Each advance request includes: 1.) a borrowing certificate advance request form, 2.) original executed lease documentation and 3.) confirmation of vendor payment.
At the end of each month, the lessor prepares and submits a report listing all leases funded and outstanding under the warehouse line of credit.
Interest is charged monthly on the outstanding balance with the principal due at maturity.
When a lease is funded with a permanent funder, the advance against said lease must be paid off immediately.
Interest rates are risk-based but generally are indexed to the prime rate.
The spectrum of companies providing lease programs and products range from the independent broker to leasing arms of top-tier money-center banks. Warehouse lines of credit can extend from $1 million to several hundred million dollars. The lessor profile that OFC Capital sees most often contains the following: a company that has been in business for a minimum of three years, has unqualified audited financial statements and current interim financials GAAP prepared, has a stable and qualified management, solid financial history that demonstrates reasonable and consistent profitability, sound portfolio performance with delinquency, loss and residual history within industry norms, in-depth knowledge of the industry and company’s niche, clearly defined strategic plan and policies and consistency in both plan and execution, and a positive reputation within the industry and with other lenders as well as their customers and vendors.
For those broker/lessors looking to grow their business using a warehouse line of credit, OFC considers the following criteria as a basis for determining their eligibility:
Established business history and above average lease performance with existing funders
Business plan with clearly defined polices and procedures
Consistent revenues and profitability
Clean personal credit of principal(s)
As a lessor considering the advantages of using a warehouse line of credit, in selecting a funding source, you must consider a warehouse funder that has the financial strength, capacity, flexibility and experience to structure a warehouse funding facility that is unique to each of your needs.
The lessor’s due diligence should include a clear understanding of the funding source’s credit culture, capability to make timely decisions and whether it has the service and support policies and procedures to effectively manage the warehouse portfolio. The lessor should make sure that the funding source they choose knows the equipment leasing marketplace.
Successful funding sources develop lasting relationships with their lessors that provide lease lines of credit supporting their unique financing needs. These relationships have survived many economic cycles.
Seek a funding source that shares the same business philosophy as your company — one that understands your business and will take the time to visit your company and learn your unique position in the marketplace. At OFC, we encourage our vendors, lessees and warehouse clients to visit our headquarters in Roswell, GA, to meet with all of the members of the company who support their needs. Only by putting a face on a name can you hope to develop those long-term relationships built on trust and shared goals.
In today’s marketplace having a financing partner who has the breadth of experience and programs that can react quickly to your financial needs is paramount for your continued success.
Peter Eaton, CLP, is senior vice president of OFC Capital. An experienced sales and marketing professional, he is responsible for the growth of OFC Capital’s new business segment; providing warehouse lines of credit and permanent financing facilities. Prior to joining OFC, Eaton was responsible for Commercial Sales/East for Pentech Financial Services. He spent several years as president of his own lease brokerage and consulting firm, as well as 20 years with M&I First National Leasing. Eaton is a past president of the UAEL and served on its board of directors for six years. He earned his CLP designation in 1987.
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