You already know you’re supposed to wash your hands, so you don’t need me to tell you that. And you’re probably overrun with virus-avoidance advice everywhere.
But while you’re watching everything you touch or come close to – and yes, you should – I want to draw your attention to someone else who might be watching something else of yours:
That someone is your banker, and if you currently have a line of credit, there’s a pretty good chance your banker is watching it with great interest right now. And that could lead to a jarring surprise people won’t be ready for.
It’s still not entirely clear how banks are going to respond to the COVID-19 crisis. If we want some guidance, we can look to what they did after 9/11 in 2001 and the mortgage market meltdown in 2008 – although neither situation is entirely applicable. In the case of 9/11, the similarity is that it came on us suddenly and no one could foresee it. In the case of the mortgage meltdown, it’s similar in that it starved people of capital and put a crimp on productivity.
If you’ll recall, the meltdown of 2008 owed a lot to the fact that credit had been too easy, and banks learned their lesson from that (at least for a while). If they react to the current crisis by thinking they need to tighten credit, the first place they will look will be your line of credit.
Unlike conventional bank notes, which have defined terms, lines of credit typically offer banks a 30-day out for any reason or for no reason at all. If customers are drawing on lines of credit, their bankers are going to know it, and it’s likely to prompt the banker to take a fresh look at the customer’s broader situation.
If the bank doesn’t like what it sees, here’s what could happen: Even if you’re keeping up on your payments, and even if you haven’t come close to maxing out the line of credit, the bank could convert what you owe to a note. That would mean you can’t draw any more and you have to start making principal and interest payments on a regular basis.
Can they do that? Yes they can. That is pretty standard when it comes to lines of credit. They’re going to look at your cash position and compare it to where you stand on your line.
So it’s important at this moment for you to look at your cash position. The stronger it is, the more chance the bank will leave you alone. (Of course, if your cash position is strong, you might consider drawing from that strength to pay off your line of credit. You know your situation better than I do, but a move like that would put you less at the bank’s mercy.)
Even more importantly, though, make sure you haven’t gotten sloppy with your line. Because if you have, you should probably expect a phone call – and it’s one the banks have every right to make. Are you making draws you shouldn’t make? Are you late with your payments? It’s better to be prepared than to just hope they won’t call.
Because they will call.
Your cash situation is so important at a time like this, so be sure to look at your accounts receivable and your accounts payable. This is no time to be sloppy with those either. They both call for good management and there’s no excuse not to exercise that. If you’ve got customers getting extended to 60 or 90 days because you’re simply not staying on top of it, that’s as much on you as it is on the late-paying customers.
The same goes for your inventory turns. If you’re in the business of making or selling things (or both), do you know what’s coming and how you’re going to move out what you’ve got on hand now? If you’re managing this well, it will obviously improve your cash position, and that’s the thing you need most at a time like this.
That line of credit is probably the one aspect of your company’s finances that you have the least control over. I know it doesn’t seem that way because the nature of a line is that you draw what you need what you need it. But you only have that control until the bank decides to take it away from you – and if your cash position is weak and your use of the line has been sloppy, you’re very vulnerable to seeing that line converted to a note.
By the way, the sloppy use of a line of credit often results from one of the worst instincts of an entrepreneur – which is the tendency to see everything in best-case scenarios. Entrepreneurs are optimists, of course, or they’d be playing it safe and working for someone else.
But that can get you in trouble when it comes to a large amount of cash someone has just made available to you. If you’ve got a $15,000 line of credit, and you really only need to draw $2,000 from it, then you really should only draw the $2,000. But what could you do with that other $13,000? The mind is awash with ideas – all great for your company and its vision, of course – and surely you’re getting ready to add clients galore who will pad your billings so you can quickly pay it back.
The next thing you know, the line is maxed out and you’re paying interest only. Then COVID-19 hits, and your banker starts taking a closer look at your numbers, because things are not going according to plan and this isn’t the time when the bank wants to be taking unnecessary risks.
Maybe you’re in great shape and you have nothing to worry about. Maybe you don’t even have a line of credit, in which case kudos to you. But understand: At a time like this, there’s someone else looking at your business, and that someone is your banker.
The banker has power over your business that you might not think about much. If that power is exercised, are you ready?
Written by: Wade Wyant
Red Wagon Advisors