SBA Financing Options for Brewery Expansion

I have been in commercial lending since 2005 and have closely followed the expansion of the craft beer industry for many years. Over the past several years, I had the good fortune to work with several individuals involved in various capacities within the craft beer industry. Throughout my interactions with them, I regularly found myself as interested with the business side of the industry as I was with the beers being created.

Given my background as a lender, I thought about how the loan products commonly used by manufacturers could be used by breweries looking to expand. I believe expansion is the point at which a commercial bank is best positioned to work with a brewery. At expansion, the concept has been proven and implementation of a thoughtful capital structure can help fuel growth.

SBA Program Overview:
Many business owners are familiar with the Small Business Administration in some capacity. The larger question has to do with how the SBA and their loan programs can assist their company.

In short, the SBA partners with banks and other lenders through a series of programs to provide funds to privately held businesses operating in the United States. As part of that partnership, the SBA provides those lenders with a guaranty against a loss on the loan in exchange for a fee that is paid by the borrower. That fee can be rolled into the loan request to help reduce the out-of-pocket funds needed to secure the loan.

The overall underwriting process for an SBA loan is very similar to conventional commercial loans. The bank will underwrite the recent financial performance of the company in an effort to estimate their future performance. Through that review and consideration of projections, we can calculate the company’s cash flow in order to determine their ability to service both existing and new debt.

In order to qualify for an SBA loan, the business must pledge the assets of the company to the loan and all owners with at least 20% equity in the company must personally guaranty the debt. Given that lenders are required to check the personal credit scores of all owners, I am often asked about the role that personal credit scores play in a credit decision. The overall expectation is that the business owners need to be as credit worthy as the company itself and thus a good credit score is expected. As a result, a good credit score will not necessarily improve your chances to obtain a loan but a poor score could put that loan in jeopardy.

SBA loans can be used for a variety of reasons but are most commonly used to finance equipment purchases, real estate acquisitions or to provide working capital. Additional uses for the SBA’s programs include acquisition financing or buyout loans. There are a number of resources both locally and nationally for companies interested in obtaining an SBA loan for their business. As a lender, my recommendation is that you work with your existing advisors, area banks and the SBA itself before engaging anyone to help you secure an SBA loan for a fee. Fees to loan brokers can add up and are not eligible to be financed by the loan. If you choose to work with a loan broker, be sure to find out who is paying the fee as some lenders will pay finders fees in addition to ones paid by the business.

Should you decide to move forward with an SBA loan for your brewery, the next logical question is who to work with? Outside of finding a partner who you believe would be a good fit, the following are some questions to consider as part of the selection process:

•    To the extent you have existing loans, is your current bank an SBA lender?
•    This question is important as all SBA loans are required to be secured with a first lien on the business assets. If you have existing conventional loans that are secured with the company’s assets, your new lender may those loans to be retired or combined with the SBA loan request.
•     Does my SBA lender have delegated authority?
•    Delegated authority (also known as an SBA Preferred Lender or an SBA Express Lender) allows the lender to approve the SBA guaranteed loan programs in-house. While this does not change any of the SBA program requirements, it does give the bank the ability to streamline the process and reduce turnaround time since the SBA does not need to separately approve the loan request.
•    Does the lender intend to sell the loan guaranty or keep it within their portfolio?
•    There is a secondary market for the guaranteed portions of SBA loans that is similar to the one that exists for home mortgages. As such, some institutions decide to sell the guaranteed portion to investors on the secondary market for fee income. Whether or not the lender chooses to sell the guaranteed portion of the loan should not have an impact on your ability to obtain the loan. Rather, the sale of the guaranty can impose limitations on that lenders ability to amend the loan in the future. If your brewery is seeking a long-term partner for your business, you may want to consider a bank who plans to keep your loan in their portfolio rather than one looking to sell the guaranty.
•    Does the lender offer working capital lines of credit?
•    This can be important if you anticipate needing a loan to support working capital in the future. Not all SBA lenders offer working capital lines which will limit your business if you find yourself in need of one. Similar to the first point, if you work with a lender who does not support working capital lines, you may be forced to retire or refinance the term loan with another lender in order to obtain the line of credit.

SBA 7(a) Loan Scenario:
For the first scenario, let’s envision a brewery expanding into a larger leased space that will require a $75,000 build out and $200,000 in additional equipment. Having saved money, the company has $25,000 to put towards the project but that amount does not account for even 10% of the total project which can present a challenge when seeking financing for the project.

Out of the gate, the challenge of this loan will be the build out and improvements to the leased facility as they do not provide any collateral for the bank. As such, the SBA 7(a) program would be a good loan structure for the bank as it helps to shore up the collateral weakness.

Collateral can often be a challenge with an early business loan and it is for this reason that I believe banks are best suited to assist with an expansion. Assuming the brewery was started with savings and help from friends and family, the equipment on the balance sheet will help secure the loan request which can in turn lead to a greater likelihood to obtain the loan and potentially more favorable terms. This is especially helpful with the taproom buildout that often costs a considerable amount but brings little to no collateral value to the bank. One thing to consider when requesting financing on a leased facility is that the length of the loan cannot exceed the term of the lease.

The amount of equity the company needs to put into the project will depend on several factors including the strength of their current balance sheet, the distribution of costs between equipment and improvements and the credit policies of the bank. One of the major advantages of the SBA 7(a) program is that it can reduce the amount of equity needed on the project.

Given the pace at which many breweries are growing and thus outgrowing their facilities, my recommendation would be to split the loan request into two portions. By splitting the loan into two parts, the entire amount of equity ($25,000) can be used toward the build out, thus allowing that $50,000 loan to be amortized over 36 months. The remaining $200,000 that was used entirely for the equipment can then be financed over a traditional 60 month term.

By utilizing this structure, the bank is comforted by the quicker repayment for the build out loan, while recognizing the collateral provided by the new and existing equipment to secure the equipment loan. By accelerating the payoff on the buildout loan, the brewery will be in better position to accommodate a move to a new facility as they will not be weighed down by debt used on facility they wish to leave.

SBA 504 Program Overview:
The SBA 504 program is different in structure compared to the SBA guaranteed programs, such as the SBA 7(a) program, and is often used for larger projects. At the bank I work at, we tend to look at the SBA 504 program for projects in excess of $750,000. While the program can accommodate smaller projects, the fees on smaller projects can be limiting and thus the project may be better served by a guaranteed program such as 7(a).

Rather than providing the bank with a guaranty against loss, the SBA issues bonds to investors on a monthly basis and uses proceeds from those sales to provide direct loans to businesses. These loans have long-term fixed rates of 10 years for equipment and 20 years for real estate which are not otherwise available through conventional loans.

Depending on the scope of the project, the borrower will be required to put in 10% or 15% equity. The bank then funds a term loan equal to 50% of the project and issues a second short term loan equal to the balance of the project. Once the project has been completed and all funds disbursed, the SBA pools all of the 504 projects for the given month and issues a bond whose proceeds are used to pay off the short term loan and provide permanent financing.

The SBA 504 project has two main benefits to a company. The first is a reduction in the amount of equity required for the project. Conventional real estate transactions often require 20% equity. By utilizing an SBA 504 project, that amount can be reduced to 10% or 15%. The second benefit is the long term fixed interest rate on the bond portion of the loan. Most bank loans will reprice every five years through a balloon and subsequent renegotiation of terms or through an indexed repricing provision within the loan agreement. Under the SBA 504 program, the bond portion of the project will have a fixed interest rate for the life of the loan. That means that the company will not be subject to interest rate increases on that portion of the project. On a 20 year mortgage, the 20 year fixed interest rate significantly hedges your exposure and locks in a sizable portion of your variable financing costs.

One other way SBA 504 loans differ from the SBA 7(a) program is that a portion of the underwriting is performed in conjunction with a non-profit Certified Development Company (CDC). CDC’s vary by state and are another great resource for questions on the program and can also help you find a bank partner if you do not have one already.

SBA 504 Loan Scenario:
For the SBA 504 scenario, let’s envision a brewery that is looking to relocate production from a leased space to their own facility with a purchase price $2,400,000. Along with the purchase of the real estate, the project includes $100,000 for buildout costs and $500,000 for additional equipment resulting in a total project cost of $3,000,000.

Given that the company has been operating for several years and demonstrates strong cash flow to cover the project, the bank opts to require a 10% down payment of $300,000. From there, the bank will issue a first mortgage note for $1,500,000 equal to 50% of the project along with a short term note for $1,200,000 to cover the remaining 40% of the project.

As the project begins, the owners’ equity accounts for the first funds put into the project. Once the entire $300,000 has been spent, the bank will then fund the $1,500,000 loan followed by the $1,200,000 loan. Upon completion of the project, the bank will submit the required documentation to the CDC for placement on the next bond issuance. The interest rate on the financing provided by the bond will be set when the bond is issued. This is especially relevant in a rising interest rate environment such as the one we are in currently as the final interest rate will be subject to market fluctuations until the bond is issued.

Once funded, the $1,500,000 bank loan will convert to an end loan with a minimum ten year term. While a project is in process, it is common for a bank to require the borrower to only make interest payments on the loan during that period. This is done with the idea that the company is often incurring other expenses such as rent that will go away or be reduced once they take occupancy of the new building. The majority of lenders will reprice the loan after five years to an agreed upon indexed rate.

It is worth noting that the SBA 504 project can be used to fund large equipment purchases or a combination of 504 loans can be used when purchasing both equipment and real estate. The SBA has an overall limit of $5,000,000 that it can fund to any one company. Assuming that $5,000,000 represented 40% of a project that would mean the project would have a total cost of $12,500,000. It is also possible for the project to exceed $12,500,000 as the bank loan and equity components would need to increase accordingly.

In conclusion, I hope this piece grants insight into the SBA lending process. There are a variety of resources available both in your local community and nationally to help you through the process and I would encourage you to take advantage of them when considering how to finance the expansion of your brewery.

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