No matter how much they want to, a bank cannot foreclose on goodwill

Goodwill is one of those terms that is difficult to define.  Calculated by cash flow, net profit, and arbitrary multipliers .  However, we recently experienced bankers demanding to be paid for it if they are to allow a sale of assets. And instead of arguing how to calculate the mysterious number, I simply ignored their request.

The facts are simple.  You have a business that has secured debt.  It does not have the cash flow necessary to support the note or the overhead.  The bank has three options

1) Turn a blind eye and hope things turn around…. This never happens, and shouldn’t because the SBA guaranty is at stake

2) Accept a arms-length asset sale to liquidate the collateral before per suing the guarantor on their personal guaranty

3) Foreclose and auction the assets of the business

Seeing as how option number 1 is not even really an option, lets focus on the second two.  Option number two is obviously the right option for the bank.  It brings them auction value or higher for the assets without the cost and time associated with foreclosure and auction.

Option number 3 achieves the same objectives as number two but the legal costs and auctioning costs will reduce the net amount received by the bank, and will also put the bank in the position where they run the risk of no one buying the assets at the auction.  If this happens, they get no compensation for the assets and have only incurred costs. And although goodwill is considered an asset of the business, it is not a physical asset and it is not something the bank can actually foreclose on and auction.

Given these facts, I politely responded to this banker that no buyer would pay for goodwill of a failing business if they new they could simply achieve success of retaining goodwill by buying these assets at auction… Bottom line is goodwill is a non-foreclosure-able asset, and in a workout scenario the bank has no right to demand compensation for it as they have no alternative way of owning it, selling it, or being compensated for it.

The banker may have not liked what I had to say, but two days later he came to his senses and agreed.  The value of the assets in liquidation is the only number that is relative in a workout scenario… Closing to occur soon