SCL 2 Seasonal Loans

Question 1

Business used seasonal loan to?

Answer 1

• To finance significant temporary increases in accounts receivable, inventory, labor, operating expenses, or any combination of these.
• Businesses such as snow removal companies, ski resorts, and companies that manufacture or distribute seasonal products typically draw on this type of loan to help them through the peak periods in their seasonal cycle.
• A temporary loan

Question 2

Two objectives in seasonal loan analysis

Answer 2

• determine when current assets and liabilities peak in their expansion and when they bottom out in their contraction.

Question 3

Seasonal Misc. Notes

Answer 3

• One of the first steps in structuring a seasonal loan is to identify the borrowing need.
• You need to identify when and how much the borrower can reasonably repay.

Question 4

Seasonal Loans: Needs and Structure

Answer 4

• When you structure a seasonal loan, establish a seasonal line of credit with a limit that allows for the peak borrowing.
• The loan should mature when the borrower’s current assets and liabilities are at the low point in their cycle. This is when the bank expects to be paid out. To maximize potential repayment, require either a cleanup period or a clean-down period.
• The loan structure needs to ensure that the proceeds are disbursed for their principal purpose—purchasing inventory and paying suppliers or other expenses related to seasonal build-up. Proceeds should not be used to purchase fixed assets or to repay another lender’s current portion of long-term debt.
• One way to control the risk of a seasonal loan is to employ an informal borrowing base.

Question 5

Cleanup period

Answer 5

• when the borrower’s outstandings are paid to zero.

- the cleanup period demonstrates that borrowings are truly seasonal and thus temporary

Question 6

Clean-down provision

Answer 6

• ensures borrowings are reduced to a certain minimum level, but not to zero, for a period of time. Use this provision instead of the cleanup provision if the seasonal line of credit is part of an overall working capital facility.

Question 7

If a seasonal line of credit is not the best option for the borrower

Answer 7

• another type of short-term revolving credit is a discretionary line of credit in which the bank’s willingness to fund is discretionary. Such loans are uncommitted but preapproved.

Question 8

Are there any additional considerations you should keep in mind when dealing with collateral issues for seasonal loans?

Answer 8

• the bank should, at a minimum, perfect a security interest in accounts receivable and inventory.
• might consider plant and equipment if there is high reliance on inventory to repay the loan

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Question 9

One way to control a seasonal loan

Answer 9

• infomormal borrowing base

Question 10

Benefits of using a borrowing base

Answer 10

• provides a disciplined way to manage the seasonal loan
• reduce the bank’s exposure to the risks of a failed selling season
• limiting advances against inventory forces the borrower to fund some of the at-risk inventory with equity, sharing the risk with the bank.
• compels the borrower to manage working capital closely during the seasonal period

Question 11

Seasonal Loans: Implementation and Monitoring:

Answer 11

• One key to successfully monitoring a seasonal loan is structuring it appropriately in the first place.

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Question 12

In order to properly manage your seasonal loan, you should request three types of reports:

Answer 12

• interim balance sheets and income statements
• cash budget reporting
• any custom reports agreed upon with the borrower that will enable the bank to monitor actual versus projected receivables, inventory, and loan balance.

Question 13

Options when a seasonal loan cannot be repaid

Answer 13

• term out the loan up to or beyond the ensuing close season. Only works if there is cash flow to service the debt.
• If the inventory is marketable, another idea is to use a borrowing base/permanent working capital revolver.
• refinancing through new debt or new equity
• Liquidation

Question 14

Best Bridal has a seasonal loan with Your Bank. The company is unable to pay the loan down at the end of the wedding season. What options might you take as Best Bridal’s lender?

Answer 14

You might consider requiring Best Bridal to offer their inventory of wedding dresses and/or jewelry as collateral. If the inventory has already been put up as collateral, a liquidation sale might generate additional funding to cover the loan obligation.