How to talk to your banker - magazine publishers

The time to start schmoozing your bank is now. Don't wait till you have bad news or are desperate for additional funding. Inform and involve your bankers, and they'll want to invest in you.

It is ironic that so many magazine owners and publishers whose stock-in-trade is effective communication seem to suffer communication breakdowns when it comes to talking with their bankers. Bank debt, after all, should help one manage the business more productively. If the opposite is true, something is wrong with the communication between lender and borrower.

How is it that relations between magazine publishers and their bankers go so wrong? The primary reason publishers and bankers fail to communicate effectively is that publishers too often don't take the time to cultivate a close and friendly working relationship with their bankers. A solid banking relationship can be as valuable an asset as the subscriber list.

Even if you have no current need for financing, it can be worthwhile to meet with several banks. Presenting your business to a bank forces you to take an objective view of your company's strengths and weaknesses. The banker to whom you present your company may spot problems you've overlooked, or may offer some advice and counsel that a consultant would have charged dearly for. Additionally, good bankers are always looking for new borrowers, and the best borrower prospects are businesses that do not have a pressing need for money.

The first step in maximizing one's banking relationship is to have a clear understanding of how bankers think. Bankers see themselves as lenders, not investors. Smart investors will demand to know a lot more about how magazines are published than a lender will. We have all heard publishers complain that their otherwise bright bankers seem to understand little about publishing. But you can be very sure that your banker knows a great deal about the business of publishing.

Bankers only reluctantly find themselves in the investing business when a loan goes bad. "Investors' in the traditional sense take on a particular level of risk expecting to earn a commensurate financial return. Bankers, on the other hand, want to avoid risk and be absolutely sure that they will get all of their principal back. To satisfy themselves as to a prospective borrower's credit-worthiness, bankers will ask for reams of financial reports, ratio analyses and budget-vs.-actual charts.

Nonetheless, bankers recognize that the world doesn't always turn out as one would like, so they examine what would happen if your magazine were not able to meet its debt-service obligations. The bank wants to know that, in such a case, the magazine could be sold for more than the bank's loan exposure: That's why bankers are interested in valuations and comparable transactions.

There are no hard rules of thumb here, but a stable magazine producing cashflow margins of some 15 percent can reasonably expect to borrow a maximum of two to four times cashflow, in part on the presumption that the magazine could be sold for (conservatively) five to seven times cashflow. "Cashflow" is defined as pre-tax profit plus depreciation, amortization and excess owner benefits, and less capital expenditures.

Finally, bankers are extremely concerned about who the borrower is. They will ask for and check personal references because they will be relying on the moral commitment of the borrower to pay back the debt, just as much as they will be relying on the business's cashflow to service the debt.

How to ask for--and get--wore

Once you've secured a loan, you will send monthly or quarterly reports to the bank. You will be wise, as well, to arrange some face-to-face meetings with your banker(s) to give the bank some familiarity with your business. But if you are current in your payments, your bankers won't feel compelled to second-guess you and will probably leave you pretty much alone.

When you make it known that you are going to be seeking additional funds, however, you will undergo fresh scrutiny almost as excruciating as when you applied for your initial loan. Typically, you will be asked to make a formal presentation to several of the bank's officers.

Prior to that meeting, the bank will ask you to produce volumes of information. At the meeting, though, you may quickly conclude that the bankers haven't read any of it. And you may very well be right. Don't take it personally, however. One purpose in asking for the information is to recheck that you have good financial oversight of your magazine.

You'd be surprised at how many publishers do not take the same care in producing their financial reports that they do creating their magazines. It may sound obvious, but the reports you send to the bank say a lot about who you are. They should be legible, with line items labeled clearly. All numbers in the various reports should agree with one another. Unusual items should be explained in footnotes. The detail pages backing up summary pages should be clearly labeled and easy to find.

At the meeting, you may be introduced to a few new faces because it is at this point in the lending relationship that the greatest potential exists for collusion and fraud between the borrower and the lending officer. These "fresh faces" will often play "good cop/bad cop"--at your expense. Resist the urge to defend yourself. Focus instead on how you have managed the business proactively over the past few years. Fess up to the odd failure and what you learned from it.

In short, sell the fresh faces on you and your management team's abilities. Don't merely report that "Last year the magazine's advertising yield per page increased. Instead, take credit that your management team "... enacted an adjusted commission plan that helped to increase advertising yield per page by 6 percent." Remember that these bankers are not interested in the magazine as a magazine; they are interested in the magazine as a business and your demonstrated ability to run it.

Assuming that you survive the grilling, the subsequent meetings and the numerous requests for more financial information, your application for additional funds may be approved. You will then be presented with a new loan agreement, which you should read, carefully. It will probably have been completed by a junior member of the lending team, and may not reflect all of the covenants and ratios that you fought for and won during your negotiations in the first loan.

Finally, your chief financial officer or your accountant should take your financial projections and layer underneath them the new repayment schedule and ratio and covenant tests. Make absolutely sure that you will meet all of the loan agreement's covenants and ratio tests throughout the life of the loan. If not, talk to your lending officer, because a seemingly ludicrous covenant could very well be just the result of an oversight.

How to break bad news

Bankers fear two things. First, an unforeseen disaster that results in a great financial loss. I recall a client whose entire printrun effectively disappeared when distributor/wholesaler Select Magazines shut its doors a few years ago. Bankers typically are very accommodating in these situations and are often willing to postpone and extend payments.

The second fear is that management will miss a series of projections, where no one variant is important, but where the cumulative effect over a few quarters is that the company has trouble meeting payments. Here, the bank's inclination would be to declare you in technical default. The bank will be concerned that the magazine's value may deteriorate to a level near or below the bank s loan amount. To avoid having your loan called, you, the borrower, should bring the bank into the picture as soon as it's clear that you're going to miss your goals.

Take, for example, the situation where a magazine faces an aggressive competitor nipping at its advertising share. To avoid losing share, the borrower chooses to match the competitor's page-rate cuts, resulting in lower yields per page as well as less cashflow available to service the outstanding debt.

In this situation, we recommend to clients that they make their bankers partners in the solution by bringing the banker up to date immediately, before the impact on cashflow is felt. The budget should be revised to reflect the costs of combating the competitor, the net effect of which may require you to postpone one or more loan payments.

The next step is to explain to the bank how your ability to make payments will be affected by the new competitor. Bear in mind that banks are much more willing to postpone principal payments than interest payments. If you can get by with a short delay of a principal payment, the bank may simply agree to your suggested delay. The bank may or may not issue a formal waiver of covenant compliance, but you will have a clear understanding of the bank's expectations.

If instead you wait to inform the bank until just before your payment is due, on the presumption that it is too late for the bank to say "no," you risk having your loan called in full.

Similarly, even if you can make all of your payments as originally scheduled, you should still inform the bank of the situation as early as possible so that the bank will have tangible proof that you have their interests and concerns at heart.

The best rule for breaking bad news is that your banker should understand all the reasons behind the budget-vs.-actual variances long before the financial reports land on his or her desk.

How to restructure debt

When the bank has lost confidence in your ability to repay its loan in full under something approximating the original repayment schedule, a complete bank-debt-restructuring is necessary.

No borrower should go through a restructuring like this without good legal, tax and accounting advice. At this point, relations between lender and borrower are typically poor, and it is hard to be objective about negotiating a settlement that is both acceptable to the bank and that does not force a sale of the business. But having taken the time previously to cultivate a good relationship with your bank will increase the likelihood of a successful restructuring.

A typical restructuring goes like this:

Your loan will be taken out of the lending department and placed in the workout department. Your original lending officer will become scarce, and your new workout officer may not be cordial. Workout officers are required to make a confidential, for-internal-use-only estimate as to the bank's ability to recover its principal and interest. Consequently, it is in the workout officer's best interest to paint as bleak a picture as possible so that he can negotiate a settlement that exceeds the bank's expectations.

Should the bank not force a sale of your magazine, its officers will work to make the loan as secure as possible. One way to do this is to break the original loan into two parts.

The first part will look like a smaller version of the original. It will be a senior secured-debt instrument, and the amount of principal assigned to this loan will be small. This loan's principal will be set so that, under the worst circumstances, you will have no difficulty making regular interest and principal payments. A loan set up in this way can still be classified by the bank as "performing."

The remaining part of the original loan principal will become a subordinated debt instrument. Interest is not expected to be paid on schedule, and principal may not be paid back at all until the end of the loan. Interest that is due but that the magazine cannot afford to pay is converted to principal. (Te bank effectively lends you new money to pay current interest.) Any excess cash produced by the magazine is "swept" out to pay past-due interest. The interest rate charged on this loan will be high because the bank sees this portion of your loan as a risky investment, and so deserving of a venture capital-type rate of return. Indeed, the interest-on-interest feature of this debt effectively results in the bank becoming your equity partner, whether or not warrants or other equity conversion features are attached to this subordinated debt.

To complete the restructuring, the bank may ask the shareholders to contribute additional equity capital, or to raise more equity from new sources. New loan agreements are prepared, and the shareholders must decide whether to sell the magazine now, or work a few years to rebuild the value of their equity.

As bad as a workout sounds, it is an opportunity that publishers who haven't made the effort to cultivate their bankers' trust would most likely be denied. That's why even if your magazines are so profitable right now that you do not need to borrow money, the time taken to craft a solid working relationship with your bank is a worthwhile investment.

L. Mark Stone is a managing director of AdMedia Corporate Advisors, a New York City-based investment bank and consulting firm.

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