The big and the small of it

There's more capital out there than ever before, but it's not for everyone
Monday, January 1, 2007

At the November Securing New Ground conference, held in the financial epicenter that is New York City, there was general agreement on at least one thing: "There's more investment capital than we've ever seen," said Capital Source managing director Bill Polk; "There's more money than ever," said Brian Gannon, a partner with Dunrath Capital; "There is so much money available that you see valuations for companies that are greatly out of whack," said Alf Andreassen, managing director of Paladin Capital Group.
But, who can access that capital? Do you have to be manufacturing some kind of video analytics that can tell the difference between a really tall man and a guy with a midget on his shoulders? Or can your average integrator and installer find some money out there to help grow a business and buy some accounts?
"For a traditional residential security company," said Jim Wooster, Jr., president of Alarm Financial Services, "I don't see there being more capital flowing into that market. I see less."
Citing recent years' sales of SLP to CapitalSource and FSS to IASG, Wooster said there are fewer than ever avenues for alarm companies to get loans under $1 million. Hence, AFS launched a program in April 2006 that features term loans up to 60 months for between $150,000 and $1 million, along with revolving lines of credit, building on a history of account buying and a "50-50 hybrid" financing program where a dealer gets back one-half of accounts financed.
"We're actually expanding our offerings," Wooster said, and that's a direct result of there not being a lot of capital flowing in. We moved to fill that void. And that's being validated for us. We're getting a lot of response to that offering."
However, Wooster did say that the increased capital can have an effect on smaller companies. "It does trickle down," he said, "because of that aspect of HSM, or whoever, they have money to go make acquisitions, so it's sort of like a food-chain thing. So it can trickle down a little bit, but we're not really seeing it in terms of there being more sources for a $250,000 loan."
If you want, say, a $5 million loan, however, you might find yourself in a better position than just a few years ago.
"We feel that we had more options today than we did two or three years ago when we refinanced the last time," said John Colehower, managing director of Matrix Security Systems, a regional intaller/integrator operating in the Mid-Atlantic. "I think there are more lenders in the market, and that may very well be driven by more capital coming into the market--and we also found them to be more competitive."
He agreed with Wooster that size matters. "Probably for smaller companies there may be more of a squeeze on the ability to borrow from traditional alarm industry lenders," he said. "CapitalSource is looking at larger transactions than SLP used to. And with FSS out of the picture, it takes out one of the few industry lenders for small companies."
However, if you do happen to be looking for a sizable loan, Colehower said there are better interest rates to be had and that lenders are willing to value accounts at higher multiples than past years. Further, "industry lenders have become more sophisticated in that they're not loaning just on multiples of RMR like they used to. They're using other economic indicators, like EBITDA."
Ralph Masino, chief financial officer at ASG Security, a regional security integrator in the Mid-Atlantic and Southwest, had a similar experience during his last round of borrowing. Lenders who've been in the market for a while have "a better understanding of the industry and can be more creative in how they lend." He said, in addition to traditional RMR-based facilities, lenders are willing to look at multiples of cash flow and lending against commercial receivables, metrics used in other industries. As traditional alarm companies expand into commercial markets with more substantial installation revenue, leveraging accounts receivable could become more popular, he thought.
As for the options out there, Masino agreed that company size is helpful, but not always because of size itself. "There appears to be ample capital available," he said, "but I think it's smarter capital today. My sense is that lenders are looking for management teams and platforms that can efficiently scale with growth, and you may not always find that in a smaller company."
Gretchen Gordon has experience lending to the security industry through her time at Capital Source and is now a director of the Communications, Media & Entertainment division for relatively new security industry entrant CIT Group, a global commercial and consumer finance company with $70 billion in managed assets. CIT has been lending to the alarm industry through the CM&E division for about four years, but only recently dedicated resources to growing that portion of the business substantially.
Gordon and CIT are currently making loans of $10 million to $250 million in commitment size, and she said the lender generally looks at alarm companies with $400,000 RMR and higher. However, "We like all types of models," she said, "commercial, residential, dealer programs. You name it, we like it."
She agrees that there is more competition for borrowing business in the security industry, herself included, and she offered up some advice for potential lenders. Like Masino and Colehower, she emphasized industry knowledge and experience as being vital. "As in any industry," she said, "there are ups and downs and it helps to have somebody who knows the business so there isn't a knee-jerk reaction." Further, she said, "a borrower should look to the lender to be a partner, to know what's going on in the industry, know other folks in the industry, thereby adding some value."
Gordon also feels it's important that a borrower research a lender before setting up a meeting. "It's important to understand how lenders have reacted in negative situations in the past," for instance. "It can be a cultural thing. They generally operate the same way in different industries when things turn sour ... Some will try to cut losses as quickly as possible." Before doing any business with a lender, Gordon recommends getting references and talking to other lenders working with that company.
"Any lender should be able to provide that right away," she said. "Most business plans don't unfold the way they're detailed. You shouldn't have to look very hard to find somebody that underperformed and maybe had some bumps along the way--How did the lender respond?"
She said red flags might include serious disagreements about the state of the business that might indicate a lack of security industry understanding on the part of the lender, or if the borrower felt unable to break away from the lender because of, say, an onerous pre-payment penalty.
However, none of those interviewed for this story was overly cautionary about the lending market. With the right amount of due diligence and research, it was generally agreed that both lender and borrower should be successful in the current market as long as the multiples are reasonable and an experienced management team is in place.
There might be fewer options for smaller companies, but the local bank is sometimes the option staring you right in the face. "What the banks are doing, I don't know," said AFS' Wooster. "I don't think it's ever going to be any different."