Hi Loan universe,
Long time no talk. I don't know if you remember me, but I am a credit analyst at a small commercial bank; we had a discussion a while ago about debt service coverage and you seem very well versed in the analysis field, so there is another topic I would like your take on: the analysis of non-profit organizations.
How do you review a non profit entity for a loan? Their goals differ greatly from that of normal corporations in that they are not trying to maximize shareholder wealth/value; because of this, the net income of the business is always minimal, which results in poor cash flow. In actuality, if we relied on the cash flow to repay the debt for non-profit organizations, we would never approve any loans to non-profits. Another problem with loans to non-profits is that the fall back position (collateral) is non existent (unless of course you want a real BIG public relations disaster).
In our analysis of these types of loans, we review the financial statements of previous years, but we really look hard at the budget for the coming year and how they are budgeting for repaying the proposed new debt. We usually end up talking through these loans with our supervisor.
I appreciate any insight you can provide.
TMH
P.S. Good post about the lenders; the commercial SPAM from the lenders (call me if you need help, etc.) is very annoying.
Full Version: Lending to Non Profits
TMH:
It has been more than a year since I worked on a non-profit loan request {I believe it was a synagogue}. If I remember correctly, going through those financial statements was incredibly hard. Fund accounting can get really complicated when there are six funds going at once. You essentially have six little income statements and six little balance sheets. It gets even worse if the statements are prepared by a volunteer and not an accounting firm. Talk about reconciliation nightmares.
Let me give you my personal take on these loans and answer your questions as best I can:
” How do you review a non profit entity for a loan?” You are right about the bank being more lenient on non-profits than on the regular for profit borrower. You really can’t hold them to a DSCR of 1.25X since most of them are setup so that expenses are equal to income. There just isn’t any cushion. On the other hand, there is such a thing as investing in one’s community and we all know how much regulators like to see that.
” Another problem with loans to non-profits is that the fall back position (collateral) is non existent…” I think most of our lending to non-profits is secured by tangible collateral, but you are right it could turn ugly if the lender wanted to foreclose. I can see the lender wanting to work things out specially hard before taking that step, but if needed they would.
” we review the financial statements of previous years, but we really look hard at the budget for the coming year and how they are budgeting for repaying the proposed new debt.” I think this is the key. When analyzing non-profits we look at the sources of funding and the possibility of continuing funding. For example, your particular non-profit might be on a yearly contract with a state agency to provide a service {relying on this source for most of its funding}, then you might want to match your maturity to that of this contract specially if you are providing short-term working capital.
You might also want to look for any tangible collateral that you can attach. Do they own the building? If so who is financing it?
It has been more than a year since I worked on a non-profit loan request {I believe it was a synagogue}. If I remember correctly, going through those financial statements was incredibly hard. Fund accounting can get really complicated when there are six funds going at once. You essentially have six little income statements and six little balance sheets. It gets even worse if the statements are prepared by a volunteer and not an accounting firm. Talk about reconciliation nightmares.
Let me give you my personal take on these loans and answer your questions as best I can:
” How do you review a non profit entity for a loan?” You are right about the bank being more lenient on non-profits than on the regular for profit borrower. You really can’t hold them to a DSCR of 1.25X since most of them are setup so that expenses are equal to income. There just isn’t any cushion. On the other hand, there is such a thing as investing in one’s community and we all know how much regulators like to see that.
” Another problem with loans to non-profits is that the fall back position (collateral) is non existent…” I think most of our lending to non-profits is secured by tangible collateral, but you are right it could turn ugly if the lender wanted to foreclose. I can see the lender wanting to work things out specially hard before taking that step, but if needed they would.
” we review the financial statements of previous years, but we really look hard at the budget for the coming year and how they are budgeting for repaying the proposed new debt.” I think this is the key. When analyzing non-profits we look at the sources of funding and the possibility of continuing funding. For example, your particular non-profit might be on a yearly contract with a state agency to provide a service {relying on this source for most of its funding}, then you might want to match your maturity to that of this contract specially if you are providing short-term working capital.
You might also want to look for any tangible collateral that you can attach. Do they own the building? If so who is financing it?
LoanUniverse:
Thanks for the prompt reply.
On the other hand, there is such a thing as investing in one’s community and we all know how much regulators like to see that.
Our department does small commercial loans, and many of them are branch originated, so almost all of our loans are good for our CRA; the non profits really dont help us that much for CRA stuff.
I think most of our lending to non-profits is secured by tangible collateral, but you are right it could turn ugly if the lender wanted to foreclose.
Our loans to non profits are usually secured by real estate (particularly if it is a religious org), but I am almost positive we would not pursue them; we would definitely try to work it out. Real estate is not good for collateral for religious orgs for a number of reasons including (1) The absolute and last thing you want to do is close the doors of a community religious organization-I can just see the headlines: "XXXXX bank foreclosed on the Homeless shelter today sending all the residents back into the streets" (yikes) and (2) it would probable be very difficult to resell the property because (a) of the notoriety associated with the foreclosure and (
the highest and best use is probably as whatever the non-profit was and it would be difficult to convert the CRE into anything else.
Everything you say makes sense and I appreciate the input; I guess non profits are to remain distintcyl in the "extremely subjective" category.
TMH
Thanks for the prompt reply.
On the other hand, there is such a thing as investing in one’s community and we all know how much regulators like to see that.
Our department does small commercial loans, and many of them are branch originated, so almost all of our loans are good for our CRA; the non profits really dont help us that much for CRA stuff.
I think most of our lending to non-profits is secured by tangible collateral, but you are right it could turn ugly if the lender wanted to foreclose.
Our loans to non profits are usually secured by real estate (particularly if it is a religious org), but I am almost positive we would not pursue them; we would definitely try to work it out. Real estate is not good for collateral for religious orgs for a number of reasons including (1) The absolute and last thing you want to do is close the doors of a community religious organization-I can just see the headlines: "XXXXX bank foreclosed on the Homeless shelter today sending all the residents back into the streets" (yikes) and (2) it would probable be very difficult to resell the property because (a) of the notoriety associated with the foreclosure and (
the highest and best use is probably as whatever the non-profit was and it would be difficult to convert the CRE into anything else.Everything you say makes sense and I appreciate the input; I guess non profits are to remain distintcyl in the "extremely subjective" category.
TMH
TMH - I think we're in the same situation you are. And you are right, you'd foreclose on this type of property with extreme caution. When we're looking at a deal to a non-profit, the primary concern is "ability to repay" and collateral is much more hypothetical than regular loans!
The projects we look at are usually to improve or build structures, which should increase membership/revenues. The question then becomes, "Is this project reasonable?" and "Is there a willingness to pay for this?" If those are met affimatively, it usually has passed the litmus test. This is important, because sometimes the leadership gets a Field of Dreams-like "if we spend it, they will give" mentality - which (needless to say) can be dangerous. That said, non-profits can be in the unique position of "making" more money simply by asking for it.
You are absolutely right: non-profits are to remain distinctly in the "extremely subjective" category.
The projects we look at are usually to improve or build structures, which should increase membership/revenues. The question then becomes, "Is this project reasonable?" and "Is there a willingness to pay for this?" If those are met affimatively, it usually has passed the litmus test. This is important, because sometimes the leadership gets a Field of Dreams-like "if we spend it, they will give" mentality - which (needless to say) can be dangerous. That said, non-profits can be in the unique position of "making" more money simply by asking for it.
You are absolutely right: non-profits are to remain distinctly in the "extremely subjective" category.
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