Five million dollars came with one condition.

The money was a bank loan to buy another alarm company, and I was the VP of Finance who would live with the terms. The condition was about our monitoring contracts. Our customer contracts were the collateral for the loan, so the bank wanted them protected, either in fireproof safes or vaulted digitally.

Until that conversation I had thought of our contracts as legal documents. The bank thought of them as the asset.

A lender arrives before a buyer does

Owners in this industry tend to think about the value of their accounts in terms of a sale that may be years away. Financing can come much sooner. A line of credit, a loan to acquire a competitor, or capital to grow a sales team is frequently secured by the recurring monthly revenue (RMR) under contract. The contracts are what the lender can claim if the loan goes wrong, so the lender wants to know they exist, that they are safe, and that they say what the company believes they say.

A lender is also a more persistent examiner than a buyer. A buyer's diligence team reviews the accounts once, before closing. A bank lending against them can send an auditor every year to pull a random sample and ask to see the signed agreement behind each one.

What the bank looked at

Three things mattered in my experience, and each one surprised me a little.

The first was custody. The bank cared whether the contracts could burn or flood. Fireproof safes for the full set of paper would have cost about $45,000. We chose to vault the contracts digitally, which was cheaper and turned out to be far more useful.

The second was existence. Vaulting the contracts meant reconciling every account to a signed agreement for the first time. I had reported for years, in good faith, that fewer than one percent of our accounts were missing a contract. The reconciled figure was closer to twelve percent. The bank did the counting we had assumed someone else had done.

The third was attrition. The loan carried a covenant set at twelve percent. I reported against that number, and anything above it had to be explained to the bank along with a request for an exception. Published benchmarks put typical gross attrition around ten percent a year,¹ so the lender had drawn its line just above ordinary. A figure we had treated as an operating statistic was now a term of the loan.

A lender and a buyer measure differently

It is tempting to assume that whatever satisfies a buyer will satisfy a bank. The two look at the same accounts with different questions.

A buyer asks what the accounts will earn under new ownership and pays a multiple for that. A lender asks what the accounts would be worth on a bad day, and whether it could take possession of them cleanly. That difference shows up in the details. Government accounts are one example. A buyer will often include them at full value when the paperwork is in order, while some lenders discount them because public contracts come up for re-bid. An account that counts in a sale may count for less in a borrowing base.

So an owner who expects to borrow should ask the lender early how it defines an eligible account, and should avoid assuming that a figure prepared for one audience will hold for the other.

Capital follows the clean paperwork

The loan changed what our company could do. It let us acquire, and the acquisition added accounts that would have taken years to build one installation at a time. None of that would have been available on the strength of the billing report alone. It was available because the contracts could be produced, protected and counted.

That is the practical case for doing this work before anyone asks. A reconciled, vaulted set of contracts is what lets a company answer a lender's questions in days. The same preparation serves a sale later, and a legal dispute at any time, because the contract is also what defines your scope and limits your liability when something goes wrong.

If a lender asked this month for the signed agreement behind twenty accounts chosen at random, how long would it take your office to produce them? That single request is a fair test of whether your recurring revenue is ready to work as collateral. The Alarm Company Valuation Estimator is a reasonable next step once you have the answer.

This article is educational. It is not legal, tax or financial advice. Lending terms vary by lender and by loan, and a financing decision needs your own counsel and financial expert.