Governor’s Housing Conference Creating & Financing New Business September 27, 2013

6 C’s of Credit Evaluation Character Capacity (cash flow) Capital Collateral Conditions Common Sense

Character (Personal Credit) Integrity of the borrower Personal payment history Willingness to repay.

Character (Personal Credit) Con’t. Fair Isaac Corp. (FICO) is the company that originally developed the credit scoring methodology we use today. On the next slide below are the financial behaviors and related factors along with the percentage weighting that each contributes to an overall credit score

FICO 35% - An individual's history of making credit payments on time 30% - The total amount of debt being carried along with available credit 15 % - The age of an individual's open credit lines (more history is better) 10% - The frequency with which someone applies for new credit 10% - Wild card factors such as the types of credit lines

Capacity (Cashflow) Borrower’s ability to repay loan Debt to equity(leverage) ratio Net excess (cash reserve)

Conditions Macro and micro economic environment Industry conditions & trends Owners experience and length of time in industry

Conditions, Con’t. Porter’s 5 Forces “3 forces” from “horizontal” competition: o Threat of substitute products o Threat of established rivals o Threat of new entrants “2 forces” from “vertical” competition: o The bargaining power of suppliers o The bargaining power of customers.

Porter’s 5 Forces

Collateral Secondary source of repayment Commercial or residential property…..( with unencumbered equity) Business assets (i.e.: account receivables, inventory, FF&E) Cash value life insurance or marketable securities

Collateral, Con’t. Example: Commercial or Residential Property Market Value of Property = $1,000,000 80% of Market value = $800,000 Current Mort. Balance = $500,000 Available for Collateral = $300,000

Collateral, Con’t. Account receivables aging less than 90 days – 50 to 80% advance rate. Business assets (i.e.: office equipment, vehicles, and inventory) – 20 to 60% advance rate.

Matching Capital to the Corporate Life Cycle Early Stage Company Maximum Opportunity Asset-Based Working Capital Lines/Bank Debt Cash Flow Based Term Debt Mezzanine / Subordinated Debt Private Equity Individual Investors Decline Stagnation Rejuvenation High Sales Low R&D Start-UpGrowthMaturityUncertain Financing Options Venture Capital Strategic Alliance Internally Generated Cash Flow

The Push-Pull Dilemma - Balancing Risk and Cost Senior Debt Mezzanine Equity Lower Risk Higher Risk To Company Higher Cost Lower Cost Least Flexibility Most Flexibility Higher Risk Lower Risk To Lender/Investor

Providers of Capital  Commercial banks are only one source of capital for businesses. Borrowers should have a balanced mix.  Owner’s equity  Vendor credit  Equipment leases  Landlord concessions  CDC financing – US SBA 504 program  Seller financing

Corporate Cash Flow Template

Corporate Cash Flow Template, Con’t. Typically, we look to see global cash flow coverage of 2.00:1 as that indicates that there is sufficient cash flow not only to service existing and proposed debt levels (corporate and personal), but to continue a reasonable lifestyle.

Applicable Corporate Ratios

Cash Flow Takeaways Business should be able to cover its debt service on a standalone basis – typically like to see at least 1.25:1 business cash flow coverage. 3-years of historical cash flow coverage is preferred – an indication of sustainability If the owner takes a substantial sum out of the business in salary and/or distributions, banks will look at personal income as well – called Global Cash Flow analysis.

Personal Income Analysis In cases where the owner is taking a substantial amount of income from the business in salary and/or distributions, Bank’s will do “Global Cash Flow” analysis which incorporates the owner’s / Guarantor’s income (and personal debt service). This is typical in many medical and legal practices. Personal debt service is considered for this calculation. The following personal income is considered: o Salaries and wages o Interest income o Dividend / Distribution income o Net operating income (NOI) on rental properties (add back depreciation and amortization as well as interest expense).

Contact Information Sonja Sanders Wells Vice President Sr. Relationship Manager