You could assume that due diligence is one thing reserved for enterprise or actual property purchases. However due diligence can be a should for lenders in hashish mortgage transactions. I lately wrote a publish about what debtors can stay up for in hashish mortgage transaction. In the present day I wish to do a deeper dive into due diligence – one thing that lenders might want to do nicely, and that debtors might want to take significantly. Under, I’m going by means of a number of the key issues that hashish lenders will search for in due diligence.
Who’s the borrower?
One of many first issues a lender must know is who and what they’re coping with. This will likely appear painfully apparent, however we’ve seen lenders rush headfirst into transactions with lower than full consciousness of the circumstances. Listed below are some issues sensible lenders search for:
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Enterprise varieties
Lending cash to a retailer in a high traffic space might be lots safer than lending to a distributor out within the sticks. That retailer can have a lot increased revenues, which implies a better probability of being paid.
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Org charts
Generally a borrower can be one entity in a bigger org chart. Understanding the borrower’s place inside the org chart is important for quite a lot of causes, together with searching for guarantors or collateral or understanding intercompany relationships that might have an effect on the hashish mortgage.
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House owners and operators
Realizing who owns a borrower can typically be extra necessary than the place the enterprise sits within the org chart. an operator’s enterprise historical past and expertise will give a lender an excessive amount of perception into whether or not the borrower has any prospect of reimbursement. It additionally helps to find out whether or not a lender will ask for a warranty from any particular person proprietor or operator.
What’s the borrower’s monetary scenario?
Equally necessary for lenders is the possible borrower’s monetary situation. Debtors by definition want cash, however their rationales for needing cash differ significantly. A borrower with a powerful monetary situation that simply wants more money to finish costly tenant enhancements or purchase a pricey asset like actual property, is far totally different from a borrower that wants cash simply to remain afloat.
Lenders consider a few of these dangers by trying on the borrower itself (see above), however a hashish mortgage not often closes and not using a deep dive into monetary data, tax returns, and projections. Lenders use these not solely to judge whether or not they need to give a hashish mortgage, but in addition to dictate issues like rate of interest, reimbursement phrases, and monetary covenants over the lifetime of the hashish mortgage.
What does the borrower personal?
Alongside the identical traces, a driving power in any hashish mortgage is what the borrower owns. Lenders will need collateral, which is one thing that they’ll recuperate if the borrower defaults underneath its mortgage – in order that they naturally will diligence what a borrower owns. Understanding a borrower’s property will even assist a lender consider the monetary situation of the borrower. Doing due diligence on borrower property might sound like a comparatively easy course of – ask for an asset record – however in observe it may be way more sophisticated.
For instance, a potential borrower might have costly tools that’s topic to an tools lease and may’t be additional collateralized. The borrower might use autos or actual property underneath leases. It’s necessary for a lender to look not solely at what a borrower has in its possession, but in addition at what it owns outright, or what it owns topic to an encumbrance in favor of a 3rd social gathering who most likely gained’t be too eager on having a junior secured social gathering.
What sort of liabilities does the borrower have?
One other huge image merchandise a lender will dig into in due diligence is borrower liabilities. These would possibly embody something from tax liabilities, precise or threatened litigation, environmental liabilities, debt service or different debt-related bills, accounts payable bills, worker pay, different contractual liabilities, and so forth.
Like with the entire different due diligence objects, borrower liabilities will inform a lender concerning the borrower’s monetary situation and the prospect of reimbursement. Borrower liabilities will drive the phrases of a mortgage. So lenders will go to nice lengths to grasp what’s on the desk.
The above objects are only a abstract of a number of the key objects lenders will search for when performing due diligence in reference to a hashish mortgage. Every of these things can have many subcategories that may make the due diligence course of lengthy and typically sophisticated. Debtors with good record-keeping processes and restricted liabilities will usually be capable of transfer by means of the method on an abbreviated agenda, however it all will depend on the transaction and the lender’s danger profile.