Use debt to get a leg up

By Amanda Kramer

George Krug and his wife, Susan Lobeck Krug, may now be financially successful purveyors of alluringly aromatic coffee at Ancora Coffee Roasters, but like any small business, there was a time when the operation wasn't exactly as rich as the couple's deepest, darkest roast.

"We started about 13 years ago in March and we moved here from Seattle," Krug said. "We did have to borrow (money) — and we were majorly leveraged. We'd sold our house in Seattle, moved to Madison and rented an apartment. We put our savings on the line when the business started."

Thanks to a brother-in-law and father who loaned the couple money and became equity investors, George and Susan were able to get Ancora off the ground.
The Krugs developed a regular payment schedule with their family and closed off the initial debt within a reasonable amount of time.

Krug said the business still uses debt on occasion -- particularly a line of credit and another loaned sum that helped them purchase one of their three locations.
"Going into debt -- it was good and it was necessary," Krug said. "The good things about debt are that it enables you to acquire other resources -- be it plants, equipment, key personnel, some kind of marketing. I think you've got to be able to produce a product, sell it and whatever it takes -- have resources available. If you don't have equity, then you have to borrow."

And many small businesses will borrow. At least that's according to one of the U.S. Small Business Administration's recent reports on small and micro business lending. The SBA found that the number of small business loans outstanding under $100,000 increased 25 percent between June 2004 and June 2005.

While the credit card market seems to be the most dynamic, according to the report, small businesses in the Capital Region that are looking for extra business cash may want to experiment with face-to-face lenders and learn to use their debt wisely.

Loan amounts increasing

Over the years, the amount of money that banks would loan to small businesses -- often referred to as "microloans" -- hovered around $25,000.

But times have changed, said Phil Greenwood, UW-Madison and Edgewood College lecturer. The CPA, who teaches executive education at UW, said any small business -- or an operation that employs about 200 or fewer employees -- is now seeing microloan amounts expanding upward of $200,000.

And while getting your hands on the money may be one thing, managing it wisely is surely another. Greenwood said there are ways that debt can be used to grow a business, and ways that debt can be mismanaged.

"What should you go into debt for? Traditionally, I encourage people to go into debt for hard debt like computers, machines, automobiles ... anything that can be collateralized in a business," he said. "Where you could get into trouble is if you're financing salaries or ongoing day-to-day expenditures. Then (the business owner is) starting to lose sight of where the debt is."

Marianne Dickson, vice president of lending operations for the Wisconsin Women's Business Initiative Corporation, said successful debt maneuvering can be surprisingly specific to the business and the business size.

"The real key is cash flow," she explained. "How much are they bringing in and what they can afford to pay out (toward the loan)? Too often people have borrowed so much and they can't afford their outflows."

Dickson agreed with Greenwood that using debt can be a "marvelous opportunity" to buy equipment. She said if the owner knows the business is stable it could also be used to expand office space or hire employees. But, Dickson warned, don't start using loaned cash to cover operating losses.

"If you're running into cash flow problems, I hate to see people borrow on credit cards," she said.

In fact, she explained, an organization like WWBIC often tries to cut those issues off before they can even begin. By doing thorough background checks, requiring a solid business plan and a close relationship with their borrowers, WWBIC can keep an eye on potential problems -- or even suggest another alternative for a young or small business.

Debt can be a tool

Deven McGlenn is no stranger to debt. In fact, it's practically second nature in the biotechnology start-up field.

McGlenn works as the chief executive officer of NeoClone, a nine-employee company that has keenly used a portion of debt -- and a lot of brainpower -- to produce monoclonal antibody products for the biotechnology and research markets.

He explained that to start, the business probably borrowed just under $1 million. And now, he said, "the business is growing very nicely. We've more than doubled sales ... and this year we're anticipating a 300 percent growth over last year."

So, what did NeoClone do right in the marketplace -- and right with their debt?

"We produced a quality product in a timely manner and serviced a market ... it comes down to Business 101," he said.

"In my opinion ... the reality is that debt can be a tool as working capital," he said, admitting that with the business he's in he differs a bit from other professionals' views on debt usage.

McGlenn said that debt in the biotechnology field can really be used based on how you need to grow your business.

"You may need short-term things for a new major discovery ... you may take on a quarter million dollars of debt and maybe you get into a new market," he said. "It can become part of cash flow ... I don't see debt that goes to nonfixed assets as being a bad thing."

However, McGlenn warned, if you're a small business without revenue yet and you don't have a realistic sense of when you're going to generate that revenue -- you'll need to review how you'll use your funds.

'Kiss of death'

So, when you're ready to use debt -- what should you do?

Just be smart about it, said Capital Region experts.
"Don't start your company undercapitalized," Dickson advised. "If you need $160,000 and a lender is only willing to give you $65,000 ... and if you can't raise what you need ... that can be the kiss of death. You're going to feel the pain really quickly."

Both Dickson and Greenwood suggested looking into face-to-face lenders like a bank, or an SBA lender, who will work with you to get the money you need.

Jim Hartlieb, regional president of AMCORE Bank, said he's seen approximately 300 to 400 small business loans, or "mircoloans," leave his bank this year. He said their institution doesn't take lending lightly, and makes sure that business owners or potential business owners have a well-documented business plan in place before any money changes hands.

"It's really the components (of the plan) that are the most important for us as a banker," he said. "We look for what your product is ... are you selling a service or a hard good . . . what's the competitive advantage or alternative out there?"

"We look for how it's going to be priced ... it's going to be competitive out there, you need to demonstrate how you're logically going to do this," he continued. "For a banker, the more anecdotal evidence you have, the more the banker's going to believe in what you're saying."

Hartlieb also explained a key component of the plan is going to be businesses "projections" -- where the business will draw revenue from, its expenses, and the bottom line.

"Ultimately, the bank wants to be repaid through cash flow," he said. "I need to be able to walk through the thought process behind each number."

Debt allowed growth

For Krug, every bit of debt and hard work has been worth it. He said he and his wife love their business and enjoy watching it grow.

Right now, Ancora has about 50 employees. Approximately 20 of those are part-time workers (mostly college students). They've got three locations now, operate a kiosk at Madison Area Technical College and sell some of their sealed and roasted beans in various locations.

Has he ever worried about the debt the business carries? Not really, he said.

"Twenty years prior to starting Ancora, I'd had one or another company (that I ran)," he said. "So I knew the challenges of making payroll every other week and never missed one. I had confidence we had a good plan."

The value of the company now, he said, is tough for him to pin down -- categorically and emotionally.

"I haven't really sat down and thought about that ... it would probably come down to how much someone else would value it, but in financial terms, roughly it's a market value of around $5 million -- but I hate to put it in that (term)," he said. "The real value is the people we've brought together and what they can produce as a team…the product, the service ... everything else that's a value to our customers."

Amanda Kramer is a freelance reporter.

kramer.news@gmail.com

Use debt to get a leg up

By Amanda Kramer

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