Fortify Your Lines of Credit

If the adage "the best time to ask for money is when you don't need it" is true, then this is the perfect time for builders to fortify their credit lines. The housing boom across much of America has swelled builders' bank accounts and added substantial assets to balance sheets. In turn, this becomes the perfect time for most builders to ask for money they don't currently need. Why? At best, it will provide liquidity for companies when the housing cycle turns down so they can continue to grow. At worst, the additional liquidity might allow a company to survive when it faces hard times.

Typically secured by current assets, a line of credit (in contrast to a more conventional loan) is a cash reserve that need be drawn upon only if desired. You can leverage a solid balance sheet by securing a line that can be accessed easily through a checkbook tied to that line or by calling your loan officer. You should seek the highest line the bank will approve; there are no interest charges if the funds are not used, and the annual fee some banks charge for this service typically is not dependent upon the size of the line.

Lines of credit are renewable, which means they are subject to bank review each year. But in a market downturn, a bank is more likely to work with a builder whose line of credit is in use than give a new line to a builder with a severe cash flow problem. (Why loan money to a firm that might be unable to repay the debt?) Hence the need to shore up credit lines during good times.

A line of credit also can be secured on a personal residence. Known by various terms, a home equity line of credit is another cash reserve during difficult economic times. It can be obtained easily from a bank where you have a personal lending relationship, and usually is based on a percentage of home value minus outstanding mortgages. With the run-up in home values in numerous markets, many home equity lines now can and should be substantially increased from their original amount. As with a business line, a larger home equity line probably won't cost any more in annual fees, and the line might prove critical to keep a business or family functioning in tough times.

The downside to using lines of credit is that you might put your home in jeopardy. While home equity lines of credit are always secured by the underlying property, a business line of credit may be secured by other company assets. Ultimately, however, you must personally guarantee your company's debt, and that could jeopardize your home in the event of a corporate calamity. Decisions such as these are more than just business; your spouse or partner should be informed and share in the decision-making before the family homestead is placed at risk.

Aside from credit on business assets or a home, a lesser-used equity source for home builders is factoring. Factoring entails selling receivables for immediate cash. Thus, $100,000 in receivables might result in an immediate $80,000 payment from the factoring agency. The balance will be received when paid, less a 3-4% fee to the factor. While this might appear unattractive, builders with an opportunity but no cash might find that factoring solves their short-term cash flow needs. Although numerous factoring companies can be accessed easily through the Internet, you should tread lightly before borrowing from an entity with which you've never worked. As with any new source for funds, thoroughly review procedural information and share it with your accounting and legal teams.

Bottom line: Maximize lines of credit so you have lifelines to preserve your livelihood should the need arise. But use them judiciously; much like an ill-planned investment, your exposure might prove to be more than you can handle.

Stan Ehrlich can be reached by e-mail at sfehrlich@rcn.com.