With rates that are 65 percent to 75 percent of conventional interest rates, Industrial Development Bonds can be a boon for qualifying companies. Providing up to $10 million in low-cost, tax-exempt financing for manufacturers and processors, this type of financing is not for all companies. The typical qualifying company has been in existence for at least five years, has a positive earnings history and annual sales of at least $10 million, with the ability to repay the bonds from existing cash flow.
Before bonds can be issued, a company must demonstrate creditworthiness. This is where lenders come into play.
“The role that the bank plays is actually simple. We provide the credit enhancement. We also handhold the customers through the entire process,” says Rick Arcaro, vice president of middle market lending at Comerica Bank.
In order for Industrial Development Bonds to be viable, a lender must be in the mix to provide a letter of credit that guarantees the funds. The investors who purchase the bonds are not as interested in who’s using the proceeds as in the credit of the bank that is providing the underlying support. In addition, IDBs must also meet state and federal requirements to qualify for tax-exempt status.
Smart Business spoke with Arcaro about how Industrial Development Bonds can be utilized, how lenders help with creditworthiness, and how a company should proceed if they are interested in pursuing this type of financing option.
What types of businesses can use Industrial Development Bonds?
At its core, it is a low-interest financing option that is specifically for manufacturing and processing companies. In order for a company to really benefit from an Industrial Development Bond, the financing needs to be more than $3 million. It’s underwritten just like a loan would be; as such the company has to be profitable and a good credit risk.
How can the funds be used?
The Industrial Development Bonds generate proceeds that can be used for acquisition of owner occupied real estate, company expansion, or for the purchase of equipment or machinery. Typically, the funds are used for buying a building and purchasing new equipment for the building.
What are some of the benefits of Industrial Development Bonds over other types of financing options?
From a cash-flow perspective, you may see a savings of 15 percent to 40 percent over conventional financing with Industrial Development Bonds. From 1982 through 2003 bonds were issued at an overall average interest rate of 2.6 percent lower than the average prime rate for the same period. This form of financing will benefit a company with lower interest cost and ultimately lower monthly payments.
What role does the lender play in helping companies obtain Industrial Development Bonds?
Before a bond can be issued, the company must be creditworthy. The bank-provided letter of credit ensures that the bondholders will get their money. We’ve provided credit enhancements for many different companies within the manufacturing and processing industries. What we’ve found in the marketplace is that there are very few banks supporting Industrial Development Bonds because they are time consuming. There is a six-month average time frame from application submission to closing of the bond issue for land and building projects. Make no mistake, there is a fair amount of work that goes into these transactions. However, the savings will benefit most businesses for many years to come.
In addition to the lender, who else is involved with the process?
Most companies use a third-party advisor to quarterback the proceedings. The advisor assists in the handling of the application with the state and federal governments, while at the same time manages actual bond issuance processes. There’s also bond counsel, the bank’s attorney and the customer’s attorney. There are a lot of moving parts involved.
How should a company proceed if they are interested in applying for an Industrial Development Bond?
Typically at a minimum, banks request three fiscal year-end statements, and personal financial statements of the business owners. Also, a “sources and uses summary” to show what the financing will be used for. The summary would include cost of the building with a break out of land versus construction, new equipment purchases and other expenses that would impact the customer’s project. In addition the bank would require projections to show the future cash flow of the completed project. An evaluation is completed prior to starting the process with Industrial Development Bonds financing to make sure that it makes sense financially.
RICK ARCARO is vice president of middle market lending at Comerica Bank. Reach him at (213) 486-6239 or [email protected].
