Question:
Ken,
After responding to advertisements in an alarm industry trade magazine, I
am considering taking a loan against my monitoring contracts. However, the
advertisement says I am building equity but it seems like I am ultimately
selling off my contract? Am I missing something? Do you other readers have
input?
Curious
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Answer:
You aren't missing anything. I routinely counsel against financing
your contracts as a way to build your business. I don't think you can beat
the finance companies. You are trading your equity for immediate cash. I
believe that the way to build the alarm company is through a balance of
outright sales [typically residential and small commercial] and leasing
[typically commercial]. A mix between burglar, fire and other systems like
CCTV and access control, is also healthy if your company can handle those
different systems.
While the concept of immediate cash flow from financing seems
appealing, unfortunately few people are able to manage the funds. The
result is that funds are dissipated without having achieved the intended
growth that might support the financing, and in the end you are left with
far less than you hoped for because you have sold the contracts to the
finance company.
An even worse result is likely if you are on recourse with the finance
company because your attrition will further erode the account base and you
may be contributing more accounts to support the loan than expected.
All in all I would recommend building your company the old fashioned
way, by hard work, long hours, little pay and struggling along. Trust me,
your kids will appreciate your efforts when they take over your large
subscriber base and all that unencumbered recurring revenue keeps coming
in.
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OK - I don't want to be accused of too much censorship - so here is a
rather critical response from a finance company. Financing is for the
sophisticated, and even they can out spend their capacity to repay. Find
out how many foreclosures and defaults your prospective lender has had.
That may tell you what your chances are. Ken
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Mr. Kirschenbaum,
I forwarded one of your emails to a friend of ours in Houston that deals
with Dealer financing of alarm. This was his reply. Please feel free to
use what you can to assist dealers in having a better understanding of what
is available in the area of Dealer financing of alarm systems.
I really enjoy being on your email list. You provide a great service to
the alarm industry.
Thanks.
Bill Parsley
Dispatch Center Ltd.
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We appreciate having the opportunity to respond to this issue. As you know,
our portfolio company, Sweetwater Security Capital, was founded upon a
private equity-specialty finance platform. Our job is to create value for
our customers, our employees and our shareholders by targeting recurring
revenue model businesses, such as alarm monitoring companies, and providing
assistance to those businesses to develop strategic direction, efficient
capital and financing structures, and to provide proven, time-tested
business management advice. We understand how these factors interrelate to
help grow successful, profitable businesses and unlock shareholder value.
In my opinion, Mr. Kirschenbaums response to a legitimate alarm
account finance inquiry is not quite on target. He is correct that many
businesses do not responsibly deploy capital. However, he is incorrect that
financing accounts is trading equity for cash. Capital is the lifeblood of
every business. Without it, the business simply cannot grow. Whether one
chooses to grow ones business from cash flow or from financing accounts
or from taking on outside investors, business success will be more
influenced by the rate of desired growth, demand in the marketplace, and
the ongoing availability of capital and human resources to achieve that
growth. Selling accounts is not trading equity for cash; it is trading one
asset, the alarm monitoring portfolio, for another asset, cash.
Mr. Kirschenbaums position that it is better to grow slowly
and without outside financing presupposes that the business
owner cannot appropriately deploy outside capital. If this is
true, it is unlikely that the hypothetical business owner has
the discipline required to execute a "hard work, long hours,
little pay and struggling along" strategy, either.
Unfortunately there is no panacea of a
œone-size-fits-all-follow-the-recipe approach to solving
business problems. In my view, his advice gives the alarm
company owner far too little credit. No doubt, Mr.
Kirschenbaum has seen the negative side of the financing
business; however, there is no greater number of bad
lenders than there is bad borrowers. Better advice to
the inquiry might have been to suggest that the business owner
spend time identifying the most critical drivers to the success
or failure of his business, then developing a plan to ensure
that these critical drivers are appropriately addressed. Most
businesses that fail, do so due to a failure to successfully
address critical drivers. Mathematics of probability supports
this statement. By way of illustration, suppose one identifies
the seven most critical drivers to the success of ones
business and that a failure to successfully address of any one
of these seven criteria would result in a failure of the
business. The seven critical drivers could be internally
driven, such as good management, sales, quality control,
effective business planning, customer service, etc.; or
external, such as technology, suppliers, regulatory issues,
competition, fundamental change in the industry structure,
financing rates, etc.
Now, if you as a business owner tell me that you are 80%
confident that you will successfully address each of the 7
critical drivers, I, as a prospective investor, would probably
politely decline to invest. Why? Because if you are 80% certain
that you will successfully address each of the 7 critical
drivers, the failure to successfully address any one of which
would cause the collapse of your business, mathematically, you
are only 21% likely to succeed with your business. Published
figures for startup business failures support these numbers –
one in 5 business startups fail. Even if you are 90% certain
that you have addressed these drivers with successful
strategies, the probability of success is less than 50%. To
achieve a mediocre success rate of 70%, one must successfully
address these seven critical drivers with 95% certainty! Not
much room for error. And capital is only one of the drivers.
Mr. Kirschenbaum is quite right when he posits that growing a
business takes hard work, long hours, for little pay and lots
of struggle, regardless of whether one finances accounts or
not. And if one has the vision and tenacity to struggle and to
work long, hard hours for little pay to provide a future for
ones children, one can likely manage credit appropriately,
as well. Responsible use of financing can help assure that
those efforts are well rewarded.
Don Bresina, Chairman
Sweetwater Ventures, LLC
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