Entrepreneur’s survival toolkit from the banker to business owners

Times are tough for South African business owners, the toughest in the nine years that Mercantile CEO Karl Kumbier has been focusing on banking entrepreneurs. So what to do about it? In this forthright podcast Kumbier provides a reality check on what happens when government and big corporates push out their invoice payment dates – and offers some sage advice for entrepreneurs struggling to ride out the storm. If you own a business or consider being one, invest some time here. – Alec Hogg.This is The Rational Perspective. I'm Alec Hogg and in this episode: survival suggestions for South Africa's cash-strapped entrepreneurs. There's a lot of hot air around entrepreneurship but one thing that is indisputable is that the thousands of hard souls who start and build businesses are the job-creating engine of any economy. With South Africa's formal unemployment measured at almost 30%, the health of this sector is critical to close the backlog and for the future of this country on the southern tip of Africa. Getting quantifiable information on this sector is a challenge but I have a source. Mercantile Bank focuses on serving entrepreneurs, primarily those in the job-creating R1m to R40m per year turnover category. Given the unique insight it has into its clients' books, to find out how well the business creators are doing, I popped over to Mercantile's Chief Executive, Karl Kumbier for a cup of decaf coffees today..___STEADY_PAYWALL___.As you'll hear, the news wasn't good. Kumbier reckons that the going for entrepreneurs has not been tougher at any time since he moved to Mercantile nine years ago. On the upside though, he does offer some practical suggestions on those who are under pressure, showing them how they can ride out the storm and actually opening up an opportunity for them to look at things a little differently. Particularly when it comes with relationships with bankers. He leaves us with a survival kit if you like, for entrepreneurs..A few years ago, we had to come up with a strategy for the bank and my predecessor Dave Brown – he was an ex commercial banker from Standard Bank – so he had already started moving Mercantile (old Bank of Lisbon) here. It changed to Mercantile. He started moving it in the direction of the business banking market and then a few years ago, when I took over the bank, we sat with our senior team and we said, "We need to come up with a purpose." We said, "Our sole purpose in life is to grow entrepreneurs, so why don't we focus on entrepreneurs?" Then our strategy was very simple. We said to ourselves we want to become the best business bank in South Africa. That's what we wanted to do..Growing entrepreneurs. It is different because most of business in South Africa is not entrepreneurial. It's more corporate..Yes, that's right. But I think that if you look at job creation and who employs people, you'll probably find 50% or more are through SMEs and I think if you look at the one segment of the market that I think is very badly serviced, it's the SME segment. So, if you speak to anyone with their own business, they'll tell you they're not getting great service. Their relationship manager changes every six months. They're only a number in the big organisations, so we just think it's a badly-serviced segment of the market where we think we can make a difference and if you can provide entrepreneurs with facilities to help grow their business, they grow and at the same time, we grow..Read also: Watching Eskom pull the plug on small businesses.So, how are entrepreneurs doing in South Africa?.I think the market's very tough. I've been at Mercantile for 9 years and if I look at it, I'd say it's probably the toughest I've seen – the economy. Small businesses – there's just no cash-flow at the moment. Even your large corporates are struggling to pay small businesses. Small businesses also supply goods to either government or to the corporates. They're not getting paid on time anymore so they rely on their debtors to pay and their debtors' days on average, must be going out 10/15 days now compared to a few years ago..What does that mean?.That means they're getting paid 15 days later. Let's use an example. You supply goods to a large corporate and they pay you 30 days after invoice. Now, everyone's finding excuses not to pay and on average, instead of your debtors paying you up to 30 days, they're actually paying you 45 days. That 15 days doesn't sound like much to you or I, but if you've got your own business, 15 days of cash-flow is huge and it puts a massive strain on the entrepreneur's business..As an entrepreneur, that means a lot to me. I get it and I think every entrepreneur does. Those 15 days: if you think about it, as the entrepreneur to begin with…You are the bank for a corporate, which seems all crazy. Now, not only are you the bank for the corporate for 30 days (because they're only paying you 30 days after invoice). Now, it goes to 45 days. That can't be good for the economy..No, definitely not and I think what it does is it puts cash-flow pressure on the SME. Then the SME suddenly misses a payment on a loan or a debit order and then suddenly, their track record from a credit point of view goes out a little bit as well. Maybe they struggle to pay wages at the end of the week or salaries at the end of the month so it's a massive knock-on effect for a small business. If I look at the whole economy now, the reason that businesses have been in business for 20/30 years and suddenly, they might be out of business could be purely because of cash-flow..Are you seeing that? Are you seeing companies that have been around for 20/30 years going out of business?.Definitely. We like to think we've got very strong partnerships with our customers so we can identify an issue early on. I think that's where we are a little bit different. It's because we're so close to our customers so we'd rather sit around the table with our customer and say, "If there is an issue, talk to us. How do we help you get through this cash-flow crunch" and maybe it's extending the term of a loan over a longer period so that your instalment is less or providing a temporary facility because we know the debtor will eventually pay? It might just take a month or two longer. But I suppose it's where the person hasn't been able to do that, that suddenly times are tough and they start defaulting, and are out of business but we've seen quite a few customers that have been around forever. You'd never think they'd have an issue and suddenly, they've got big problems. As I said, that's the first time you're starting to see that in a long time..Why?.I think it's purely the economy. You're not getting the… Your turnover levels are maybe a little bit less. Your margins are being squeezed because competition is suddenly riper now and also because people aren't paying you on time. I think it's a combination of all of those factors. You just have to look at the construction industry now. We're not in with any of the big construction players, but how many of them have gone into business rescue or liquidation? Now, imagine the knock-on effect for a small supplier to the construction industry. If one of these (Basil Reid or whomever) owed one of these suppliers who's a typical brick, steel, or labour supplier and suddenly they go under…there's a massive knock-on effect for the small business, which has a good chance of going under as well because of one of the large ones going under..Karl, you guys do pride yourself on long-term relationships with entrepreneurs but let's just take an example. Group Five. It's in business rescue. They clearly aren't paying 30 days anymore. They're paying as long as they possibly can. If you're running a business, you have Group Five as one of your customers or maybe even your major customer and it's gone into business rescue, what does the entrepreneur do about that if they bank with you?.Yes. Look, maybe they haven't got concentration risk where there only customer is Group Five in that example. What we try and do is before we lend an entrepreneur money, we'll assess the debtor's book to make sure there isn't concentration risk on one particular debtor. Obviously, if that debtor does go under, this business won't survive. Hopefully, their debtor's book is spread amongst a few and if a big one like that goes into business rescue, there is unfortunately nothing that SME can do with regards to that process because the process is not controlled by you as a creditor. That process is now controlled by a business rescue practitioner and everything is put on hold, so that money that was owed to you, you're probably never going to see. .Hopefully, there'll be post-commencement finance being raised through the business rescue practitioner where you can continue maybe supplying on a COD basis and hopefully, you can make back some margin to make up your losses. I think that's the route that most of these SMEs will take but I think from our point of view, we'll look at it and say, "There is a cash-flow problem at the moment. They've lost that one debtor. They're going to have to take a bad debt on it". We'll assess it and say, "Right. Maybe they need increased facilities for a while until they trade their way out of it (as I said earlier) or you spread your loans over a longer period to make sure your instalment is a little bit less so it helps your cash-flow monthly..So, he went to you as a bank and now you are the entrepreneur's bank. It's not some big organisation for whom putting another company out of business is irrelevant. In your case, you have that relationship. When do you decide that you have to pull the rug and how do you go about doing that?.It's a difficult one. That's probably the worst thing that could ever happen because we don't ever want to do that since we'll obviously lose the customer and there's a good chance we'll write off a portion of our loan and it also takes forever when a business goes into liquidation to collect on your debt because you have to first liquidate against the pointer and then you've got to sell the assets. Once the assets have been sold, then you get a dividend and hopefully, it's gone on auction and hopefully the buyer has the money to buy the item/s. Sometimes, you go through the auction process and the buyer doesn't have the money so sometimes these things can take long so you never wish that on anyone. The last thing in the world that we want is to see one of our customers go under. .I think we'll only ever pull the plug when you're 100% convinced this business has no chance of survival. It just cannot get through this cycle. Then you'll have to pull the rug and then you'll have to do it quite quickly because there's an old saying that 'collections, is like eating an ice-cream in the sun. The longer you take to eat, the less you eat. Right? So I think if you've got to the stage where there is no chance of collecting then you've got to actually unfortunately operate quickly and try and collect our debts as quickly as we can. .Give us an example of that? .So, what we'll do is as a bank typically we're the secured lender, so, and also often the entrepreneur knows that they got issues and maybe they've even put it into voluntary liquidation then they'll talk to us then at least it's a managed process. It's when you're not working together that it could become an issue but if we're the secured creditor as an example we got a general material bond over plant and equipment and maybe a bond on a property, that you want to do is, if we've got a general material bond over plant equipment when times are tough and there's no chance of this business surviving we'll then call in our facilities but what you then have to do, is you've got to go and perfect your security so in other words you've got to go into the business, you've got to mark the stuff that's yours cause we've got the bond over it. .You've got to basically take control of the premises, the factory or the shop, whatever it is and then once you've got that, then the equipment is effectively ours, then it'll get sold through a process. So these are the type of things you've got to do very quickly. Same as, say now we, there's a truck, there's an instalment sale agreement on a truck. The truck's got wheels, it's got an engine, that can disappear quickly. So, if the business has gone into liquidation you've got to go and find that truck quickly, then you have to appoint an auctioneer, then the auctioneer has got to go and sell it. So the quicker you do all of that the better from a collections point of view. .The interesting example with Steinhoff. Steinhoff as we know is lots of corruption and everything else but they bought a company, the biggest foreign acquisition ever by a South African company called Mattress Firm in the United States. Mattress Firm is pretty worthless. The banks had lent a lot of money to it and the way that Steinhoff, the new Steinhoff have negotiated their way out of it is by bringing the banks to the party, so the banks extended credit, took 50% of the equity now in Mattress Firm and Mattress Firm is still trading. We're talking about multiples lower or smaller but do you do that as well? Do you get involved with a business that might be able to trade its way out of trouble and take an equity stake in lieu of debt? Have you ever done that? .Yes, with SMEs I suppose it's very different because you, something like that you are talking massive numbers and I think obviously the banks have had a look at that particular transaction itself and said: "look here, if this goes into liquidation tomorrow we're going to take a massive hiding but we think there's light at the end of the tunnel, we think this business is sustainable with the right management team, so we think it will be in the best interest for all to get together and convert half of our debt into equity. At least then we, they can continue servicing that portion of debt that's left and we still have the upside if this business does turn around, you know we can make a go of it." You see, that you can do in the large organisations, I suppose like an Edcon, locally and that you know where some of the debt providers converted to equity. .African Bank was an example where, debt providers converted to equity, so that's where you see a future for the business and you think it can survive. I think with the SME its quite difficult, you don't want to own shares in an SME, it's not very corporatised if you know what I mean so it does not have the governance that the large organisation has and so you don't really ever want to own shares, so we'd rather sit with the entrepreneur and structure our loan in a way that actually suits their cash flow needs over those tough times. So, it's maybe an interest only period on the loan for 2 years until they trade their way out and then they repay the loan over another 5 years, so that, you know we'd rather follow that route but sometimes we do take what we call equity options. .So, if we, and we do it, say we are financing a leverage buy out, you've got an existing business and you want to buy another business. It's not a distressed example, this is more an opportunity to grow and we say ok great, you've got x amount of near security in both businesses now but we are still short a little bit of security, but we really think there's enough, we've assessed it, there's enough cash flow in this business to service the levels of debt, however our risk is quite high and we're effectively taking some equity risk, if you want to call it that, we'll then provide the loan because we know the cash flow can sustain that level of debt, but we'll take an equity option in the business, which just means that we have an option to get equity for free in a few years' time, but we never want to own those shares. .What we do is we immediately put that option back to the entrepreneur and they pay us out for it, so, and we come up with a formula, as an example the formula might be two and a half times in 3 years' time and 10% of that. That's what we want and then you, then they pay us a fee in lieu of the equity we would have had I suppose if we'd taken equity. .So, some advice for entrepreneurs in this tight cash flow environment… .Yes, I think you must just, you know you do what you do best, you concentrate on your business, I think obviously you want to look for new markets. I think the rest of Africa as an example, a lot of entrepreneurs had to look outside of South Africa to, you know, to go close to our borders Mozambique, Zimbabwe's got a few issues at the moment but other places, Malawi, a lot of, one of my friends just started up a business in the DRC etc., so I think people are looking elsewhere to try and grow. But I think, to me the economy has to turn at some stage. Everything's in cycles, I think now that the elections are over, the elections has also been a big handbrake for business. No one is really investing at the moment because everyone is waiting for the elections, at least now they're over. .People now can get on with their lives and carry on growing. So, and I think everyone's made it, if you're an entrepreneur and you're resilient, so I think if entrepreneurs have made it through these tough times over the last few years, you know they understand the market, they understand their businesses, the market will turn and when it turns these guys are all geared up to ride the wave and grow again. So I think it's just here, you've got to make it through another 6 to 12 months then after that, I think hopefully things will be a lot better. .And if you are in difficulty from everything you've said before, come and talk to us. Talk to your bank rather open the door and start discussing because there can be a solution. .I think people are sometimes worried about, jeez like maybe the bank will pull the plug now, because suddenly I'm going to bring it to attention, but I can tell you now as a banker we'd much rather you be open and honest and come and talk to your bank and say listen here, I am going to have an issue. What you don't want to do is find out about it later, when suddenly the thing has gone into business rescue or it's close to liquidation. Rather come and talk to your bankers up front, be open and honest and then you sit around the table. You know at the end of the day it's a partnership, you know we're partnering with you as a banker. Sit around the table and say right, what are the issues? Is this business sustainable? .What are you going to do to generate more turnover? What do you need from a bank's point of view, and then we sit around the table and we work out as a partnership how to resolve your problem and if we're all on the same page, you know, we can trade our way through this thing. But if you duck, if you surprise us in a few weeks' time, when things, you know have gone too far down the road then there's no chance, then unfortunately your business will 10 to 1 go into liquidation or business rescue. .And tell the truth. .Yes, tell the truth, 100%, if you hide stuff, that's another thing we don't, you know, if we feel we've got a really great relationship all our customers, and have to be truthful and honest, because if you don't tell the truth it immediately leaves a massive negative tick, you know, we can't work with someone that doesn't tell the truth, you know that's the bottom line..Honesty really is the best policy, especially in business. That was Karl Kumbier the chief executive of Mercantile Bank and this has been The Rational Perspective. Till next time, cheerio.

Entrepreneur’s survival toolkit from the banker to business owners

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