Beyond the Rates

It's a good time to finance your business. Interest rates are low, the economy is still growing and there are lots of aggressive lenders with ready cash. Most important, the trucking industry is in a high part of its normal business cycle, with many carriers sporting solid balance sheets and a hunger for new equipment. Yet fleets say that even with financing easier to obtain than it has been in a

It's a good time to finance your business. Interest rates are low, the economy is still growing and there are lots of aggressive lenders with ready cash. Most important, the trucking industry is in a high part of its normal business cycle, with many carriers sporting solid balance sheets and a hunger for new equipment.

Yet fleets say that even with financing easier to obtain than it has been in a long time, they remain loyal to lenders who have established themselves in the trucking industry, done business with them before and understand the business inside and out. “Financing today is much easier than in past years,” says Max Fuller, U.S. Xpress Co-Chairman and CEO. “There's a lot of money around… but there's a lot more to value than just chasing a cheaper rate. You want a lender who understands the business.”

Successful lenders understand the current overall environment, too. “In general, it's a favorable environment for borrowers,” says David J. Thomas, sr. vp at La Salle Bank's Surface Transportation Group in Chicago. “There have been recent low levels of problem loans in the trucking industry, and a sense of aggressiveness on the part of lenders.” He adds: “There's a lot of liquidity available in the world.”

DECISION TIME

With so much money available from willing lenders, how does a carrier choose the right lender for its situation? What sorts of financing plans is best? What questions should carriers ask before they sign on the dotted line? And the most basic question of all: Do I lease or buy?

To answer these questions, lenders must first understand the cyclic nature of trucking, which determines, among other things, the interest rate, how much a truck will be worth several years from now, how easy or difficult it will be for carriers to meet future loan payments, and whether lenders will be willing to weather the downturns with carriers.

“Other lenders jump in and out of the trucking business,” says Thomas. “We understand the cycles and we say to customers: ‘We'll stay with you through the tough times.’” During his 13 years at La Salle, Thomas has experienced significant downturns, as well as smaller ones. “Our customers know that we're here for the long haul.”

To a large degree, the transportation business cycle mimics that of the general U.S. economy, which typically follows a 10-year pattern. In fact, trucking is often seen as an early indictor of the economy's overall strength.

Since the last major downturn occurred about 2000-2001, “We could see a softening in 2010 based on a 10-year cycle,” says Mike Winterfeld, director of appraisal services for Taylor and Martin Inc., Fremont, NE. About 80% of his company's appraisals are done for lenders, and last year it appraised about $3.25 billion in capital equipment in the transportation industry.

Winterfeld maintains a keen eye on the trucking business cycle — how long equipment is being kept and how regulations, like those mandating low emission engines, affect buying habits. He also has noticed a big change in lenders' advance rates. “On a tractor, for example, a lender might have given an 80% advance in previous years. Today, they're advancing 85% and higher. They're accepting much lower down payments.”

IN THE DRIVER'S SEAT

Lenders say there are several reasons for the loosening of down payment requirements. First, times are good so fewer loans are in arrears. Second, equipment is depreciating at a slower pace than in past years. For example, a tractor may only depreciate 24% the first year, according to Winterfeld. Third, with so many lenders offering money, there's more pressure on them to remain competitive. Lenders don't always like to admit it, but right now borrowers are in the driver's seat.

From the borrower's point of view, lenders fall into several categories: banks, captives and non-traditional lenders. The latter are often companies that don't fall into either of the other two, but are committed to understanding and servicing the trucking industry.

All three bring their own experience and expertise. Carriers are impressed when a bank, such as La Salle, establishes a transportation group that focuses on the industry.

Carriers also like it when banks understand the trucking business inside and out, and are willing to stick around during the down cycles. “Many banks don't understand the trucking business,” says George Payne, exec. vp of Interstate Distributor Co., a Tacoma, WA-based carrier with 2,600 tractors and about 8,000 trailers.

“For example, they may want to look and touch the trucks [the collateral] — but trucks move. If they're not moving, they're not making money.” He says that lenders need to appreciate the high leverage and low margins of the trucking business, as well as their unique cash cycles. “It comes down to understanding the value of trucks.”

Payne offered an example of why lenders must have an intimate understanding of the trucking business. When the price of diesel shot up, many lending banks did not understand that while surcharges would help recover fuel costs, there would be a lag time involved. “Knowledgeable bank lenders understood the issue and didn't panic," he says. "Conventional commercial banks would shy away.”

Captives often hold special sway with carriers because they are present at the point of sale and have built a relationship with them. They also understand the equipment better than anyone else. Although this clearly gives them a leg up, they must also be competitive on rates, especially in the current low-interest environment.

Another advantage of captive lenders is that they often spot truck buying trends early, enabling them to fine-tune their offerings. “There is a lot of growth across the board,” notes Richard Howard, vp of DaimlerChrysler Truck Financial. “We're seeing strong growth on the fleet side and a lot of pre-buying.”

MIX AND MATCH

He's also seeing more interest in leasing because carriers are focusing on costs over the life of a vehicle. Because captives also sell used equipment, they often tailor leasing deals to recapture trucks after a predetermined mileage or age limit has been reached to maximize their resale value.

“We offer a mix of leasing and financing to match a fleet's cashflow,” says Howard. “It's crucial to our success that we understand the business and understand a company's particular plans.”

DaimlerChrysler handles all types of trucking businesses, from owner-operators to larger fleets. The company plans to open an industrial bank in Utah during the second quarter of the year. Howard says the bank should be able to offer lower cost loans and will stay within the automotive/truck business. “We'll offer bundled products to suit whatever a fleet needs to help them grow… It's a relationship business.”

Relationships are key to the success of GE Trailer Fleet Services in Wayne, PA, according to vp of national accounts Scott Nelson. “We're here through the good times and bad times. We want partners who will ride the cycles with us.”

Nelson says that lately he's noticed that fleets are interested in upgrading their tractor fleet but are worried about liquidity. “Fleets are looking at leasing to make their dollars go further.” He said fleets are considering using the equity in their trailers to finance tractors, especially toward the end of the trailer's life. “It's not widespread yet, but it's something that customers are looking at.”

He notes that it's important for his company and other lenders to follow the trends in equipment usage closely. For example, Nelson saw a spike in trailer purchases in 1998-99 that has turned out to be a bubble working its way through the system. “Normally we would see an eight-year cycle, but fleets are keeping them longer because of tractor purchases.” It is no surprise that carriers have been pre-buying tractors to avoid any negative consequences of ‘07-emissons-compliant equipment, but it took some drilling down to discover that these same carriers were keeping trailers longer in order to tap their equity for the purchases.

Among the company's most popular financing deals are TRAC leasing, which requires a balloon payment after a set number of years, and walkaway leases, in which trailers, for instance, are used for five or six years and then dropped off. “Fleets like this plan when they don't want their equity tied up.”

La Salle's Thomas has also noticed that fleets are keeping equipment longer. “I used to see about seven years for trailers and now I'm seeing ten to twelve. Tractors used to be four years and now we're seeing five and six.” He adds: “We're seeing a fair amount of pre-buying tractors because of ‘07.” These trends have led to lengthening of leasing terms.

Winterfeld agrees: “I'm seeing carriers dictating terms, and many want them longer.”

With lenders bending over backward to offer competitive rates and financing plans tailored to a fleet's situation, what distinguishes one lender from another? According to most fleets, the deciding factors are loyalty, commitment and the ease with which they do deals. These intangibles — especially loyalty and commitment — rank high among borrowers after having been burned by some lenders during the last downturn.

RELATIONSHIPS MATTER

“Mercedes-Benz Credit [now part of DaimlerChrysler Financial] was one of the first companies to finance us, says U.S. Xpress's Fuller. “We were small and high risk, but they stepped in to help us. They've been big supporters of our company.”

Fuller says that even though loyalty puts Daimler on the short list, it must be competitive. Sometimes the cheapest deal is not always the best, but they have to be in the ballpark. “We may pay a higher rate, but …they don't run for the hills like some banks do during a downturn.” He adds: “They've even made their contracts simpler. They have fewer documents than before.”

Brock Ackerman, co-owner of K&B Transportation, Inc. a South Sioux City, NE-based refrigerated carrier specializing in hauling red meats and perishables, uses several lenders: DaimlerChrysler for its Freightliner tractors and banks for its trailers. “We use the lending arms of banks that understand the trucking business. They don't operate like a bank.”

Despite the easy money available from many sources, Ackerman has seen a tightening of standards among lenders. “They're looking beyond balance sheets. They're looking at viability, company structure and management. This is a positive trend for the industry because a lot of past rate structures messed up the industry. It allowed the wrong people to get into trucking.”

According to Ackerman, since most lenders offer similar rates and financing deals, what's most important to him is that they understand the trucking business. “We want lenders who are reasonable about what they want in the way of collateral and are not jumping at the first sign of a downturn.”

K & B recently pre-bought trucks on a walkaway lease because the company was not interested in owning. For their purposes, this deal reduced the overall cost of the pre-emissions trucks.

ASK THE RIGHT QUESTIONS

Even for large carriers that can have their pick of lenders, relationships play a major role in deciding which lender to use. “Loyalty is huge,” says Interstate's Payne, who has a checklist of questions to ask potential lenders.

“First, I like to ask them about their portfolio. I want the lender to have a diverse portfolio so I'm not the only truck carrier.”

At the same time, Payne doesn't want a lender to be too heavily invested in the trucking industry because it may mean they will be less able to handle his company's needs during an industrywide downturn.

“I also want to know how they would react if we have one or two down years. What have they done in those instances before?” Payne also is interested in the lender's culture. “I want to know how we would fit in.”

To Payne and many other carrier executives, the need for intricate and creative lending plans that were common in past years are unnecessary because of the good economic environment and the healthy state of the trucking industry.

Still, they're always looking for clever ways to stretch their budgets. “We're exploring a lease payment program based on miles driven and not the age or the model year.” He says this kind of plan keeps his company in the latest trucks and retires them at the most opportune time in regards to warranty coverage.

For the lender, it allows them to resell equipment with the same amount of usage, a sweet spot for them. For example, a lender could sell a fleet consisting of tractors all with 400,000 miles. “It's called ‘activity-based leasing’ and it would require a real-time way of monitoring miles. We're not doing it yet, but we may do it one day.”

Getting technical

Walkaway Lease. The lessee returns the equipment to lessor at the end of the term, which must be more than one year.

TRAC LEASE

Aka “Terminal Rental Adjustment Clause Lease.” Usually three years or more, this is a term lease in which the lessee guarantees an end of term residual payment.

SALE LEASE BACK

Lessor purchases equipment from the lessee and leases that equipment back to the lessor for a period greater than one year.

SALE RENT BACK

Lessor purchases equipment from the lessee and leases it back to the lessor for a period less than one year Conditional Sale. A form of finance lease that is structured like a loan. Lease may contain a down payment or end-of-term balloon payment.

PURCHASE OPTION LEASE

Lessee has the option to purchase the equipment for a fixed amount of money at the end of the term, which must be greater than one year.

FAIR MARKET VALUE LEASE

Lessee has the option to purchase the equipment for a fair market value at the end of the term, which is greater than one year.

Source: GE Trailer Fleet Services

Not a lender's dream?

If you've got a poor credit rating or are just starting out, an SBA loan may be the answer

For fleets that have experienced bad luck or poor credit, a loan backed by the Small Business Administration may mean the difference between surviving and closing the doors. The process begins with your commercial bank. If you have a blemish on your credit record your regular bank may be willing to lend you money if it's backed by the SBA. With SBA approval, a bank may even be willing to stretch out payments longer than the usual 10- to 15-year period.

“Banks look at a potential borrower's character, management team and plans, but if a prospect is too risky for their criteria, they may require the SBA safety net,” says Jim Hammersly, SBA Director of Loan Programs.

Because a commercial bank may not understand the intricacies of the trucking business, you will have to spend a great deal of time with the banker to make certain they appreciate your fleet's business model. “The key is that the fleet owner needs to map out the revenue plan. The fleet owner must have a solid business plan that he can explain to the bank officer,” Hammersly says.

Commercial banks unfamiliar with the trucking industry will look at simple items like the growing price of diesel and how it would affect debt. It's up to the fleet to explain how the price of fuel will affect their operations and make sure that the bank officer understands the mitigating effect of surcharges.

The SBA suggests that all potential borrowers ask themselves these questions before walking into a bank and requesting a loan:

  • Do I need more capital or can I manage existing cash flow more effectively?

  • Do I need money to expand or as a cushion against risk?

  • How urgent is my need? You can obtain the best terms when you anticipate your needs rather than looking for money under pressure.

  • How great are my risks? The degree of risk will affect cost and available financing alternatives.

  • What stage of development is my business in?

  • What will capital be used for?

  • What is the state of the trucking industry? Depressed, stable, and growth conditions require different approaches to money needs and sources. Businesses that prosper while others are in decline will often receive better terms.

  • Is my business seasonal or cyclical? Seasonal needs for financing generally are short term. Loans advanced for cyclical industries are designed to support a business through depressed periods.

  • How strong is my management team? Management is the most important element assessed by money sources.

  • Perhaps most importantly, how does my need for financing mesh with my business plan? If you don't have a business plan, write one. All capital sources will want to see your plan for the startup and growth of your business.



Decision time: lease or buy?

Most fleets lease their equipment, because leasing often favors businesses, like trucking, that generate high cash flows. There are some situations, however, when buying may be a better option.

The ultimate decision to buy or lease comes down to your personal equipment strategy: How long will you keep your equipment? How much revenue do you expect it to generate and how much will it be worth at disposal? These are questions that only you can answer, but it's vital to know the parameters before entering into discussions with lenders.

You can choose from a variety of leasing or buying plans, or perhaps even a combination of buying and leasing strategies.

In the end, though, it's important to go through all the calculations with your tax advisor and your lender or lessor to decide which option is best for you.

LEASE BUY
CASH FLOW Usually better, especially in the short term. It frees up cash to use elsewhere. You pay less overall for your equipment, but the down payment is higher. You need collateral.
THE DEAL Documents can be complicated. Be careful of hidden upfront fees and “skip payments.” Usually simple and straightforward; less paperwork. The pool of lenders is larger and may include a bank where you already do business. Government-backed SBA loans (see sidebar) may be available for startups and fleets with poor credit.
MAINTENANCE Maintenance costs are often rolled into the plan, making it easier to pay. You decide on maintenance schedule.
TAXES If structured properly, could provide larger expense write-offs than depreciation could offer. Depreciation depends upon IRS rules for your tax situation. You may not have flexibility to reduce tax liability.
EQUITY You don't own the equipment and will need to replace it at the end of the lease period. You own the equipment, and can use it for collateral or anything else, including leasing it to others.
DISPOSAL The lessor's responsibility — but be wary of excessive or unfair buyout options when the lease period ends. Based on your timing. You may get a higher price for the equipment on the open market than that offered by a lease buyout program.

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