Rural Development: Rural Business-Cooperative Service Business Loan
Losses (Letter Report, 08/25/1999, GAO/RCED-99-249).

Pursuant to a congressional request, GAO provided information on the
reasons for the losses being incurred by the Guaranteed Business and
Industry Loan Program, focusing on the Rural Business-Cooperative
Service's experience with business and industry guaranteed loans made
during fiscal year (FY) 1994 through FY 1998 on which the Service paid
losses.

GAO noted that: (1) the level of losses associated with the Rural
Business-Cooperative Service's Guaranteed Business and Industry Loan
Program has been relatively low in recent years, compared with the size
of the entire loan portfolio; (2) nevertheless, the Service did not
follow its own requirements in making guarantees on loans to 18 of the
24 borrowers, thereby contributing to the losses; (3) specifically, the
loans to these 18 borrowers did not meet the Service's guarantee
requirements because 11 loans were missing feasibility
studies--thoughtful evaluations of prospective borrowers' business
proposals--that Service officials should have obtained, 3 others had
feasibility studies with significant flaws, and 4 were questionable,
given the business risk and the potential for loss of collateral; (4)
for the remaining six borrowers, the information GAO obtained from the
Service's loan files was insufficient to pinpoint problems; (5) Service
field officials said that they had not obtained feasibility studies and
other documentation when information provided by lenders and borrowers
about the businesses and business plans appeared to provide an adequate
basis for their guarantee decisions; (6) they also said that they have
been operating in an environment that occasionally fosters lending to
riskier businesses in order to achieve the program's goals of
maintaining or increasing jobs in rural areas and that they occasionally
feel pressure to use all of the loan guarantee authority allocated to
their offices; (7) GAO's findings are similar to the results of internal
quality control reviews performed by the Service of its guarantee
decisions in 13 states during FY 1997 and FY 1998; and (8) through these
reviews, the Service found that its offices had made guarantee decisions
without feasibility studies and other required documents, such as
business plans.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  RCED-99-249
     TITLE:  Rural Development: Rural Business-Cooperative Service
	     Business Loan Losses
      DATE:  08/25/1999
   SUBJECT:  Business assistance
	     Business development loans
	     Loan defaults
	     Government guaranteed loans
	     Rural economic development
	     Internal controls
	     Loan repayments
IDENTIFIER:  USDA Business and Industry Loan Program

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    United States General Accounting Office GAO                Report
    to the Chairman, Committee on Agriculture, House of
    Representatives August 1999        RURAL DEVELOPMENT Rural
    Business- Cooperative Service Business Loan Losses GAO/RCED-99-249
    GAO                 United States General Accounting Office
    Washington, D.C. 20548 Resources, Community, and Economic
    Development Division B-283280 August 25, 1999 The Honorable Larry
    Combest Chairman, Committee on Agriculture House of
    Representatives Dear Mr. Chairman: The Guaranteed Business and
    Industry Loan Program-one of the loan programs administered by the
    Rural Business-Cooperative Service in the U.S. Department of
    Agriculture (USDA)-guarantees the repayment of bank loans for
    almost any business project that creates or retains jobs in a
    rural area. The loans selected for a Service guarantee are to be
    "quality loans" providing lasting community benefits. In January
    1999, we reported to you that this program had losses of over $24
    million in the 1990s.1 As of June 30, 1999, the program had over
    1,980 borrowers and $2.6 billion in outstanding loan principal and
    130 delinquent borrowers who owed $167 million. At your request,
    to gain an understanding of the reasons for the losses being
    incurred by the program, we examined the Service's experience with
    business and industry guaranteed loans made during fiscal year
    1994 through fiscal year 1998 on which the Service paid losses.
    Thus far, the Service has paid losses of $13.4 million on loans of
    $35.6 million that it guaranteed during that period; these loans
    were obtained by 24 borrowers in 15 states. Results in Brief
    The level of losses associated with the Rural Business-Cooperative
    Service's Guaranteed Business and Industry Loan Program has been
    relatively low in recent years, compared with the size of the
    entire loan portfolio. Nevertheless, the Service did not follow
    its own requirements2 in making guarantees on loans to 18 of the
    24 borrowers, thereby contributing to the losses. Specifically,
    the loans to these 18 borrowers did not meet the Service's
    guarantee requirements because 11 loans were missing feasibility
    studies-thoughtful evaluations of prospective borrowers' business
    proposals3-that Service officials should have 1Rural Development:
    Rural Business-Cooperative Service's Lending and the Financial
    Condition of Its Loan Portfolio, (GAO/RCED-99-10, Jan.12, 1999).
    2The Service's lending and servicing requirements for guaranteed
    business and industry loans are contained in federal regulations
    (7 C.F.R. 4279 and 4287), supplemented by instructions from the
    Service. 3Feasibility studies are to be performed by a recognized
    independent consultant and include assessments of the business
    market and of the technical, financial, and managerial feasibility
    of the business proposal (7 C.F.R. 4279.150). Page 1
    GAO/RCED-99-249 Rural Business and Industry Loans B-283280
    obtained; 3 others had feasibility studies with significant flaws;
    and 4 were questionable, given the business risk and the potential
    for loss of collateral. For the remaining six borrowers, the
    information we obtained from the Service's loan files was
    insufficient to pinpoint problems. Service field officials said
    that they had not obtained feasibility studies and other
    documentation when information provided by lenders and borrowers
    about the businesses and business plans appeared to provide an
    adequate basis for their guarantee decisions. They also said that
    they have been operating in an environment that occasionally
    fosters lending to riskier businesses in order to achieve the
    program's goals of maintaining or increasing jobs in rural areas
    and that they occasionally feel pressure to use all of the loan
    guarantee authority allocated to their offices. Our findings are
    similar to the results of internal quality control reviews
    performed by the Service of its guarantee decisions in 13 states
    during fiscal years 1997 and 1998. Through these reviews, the
    Service found that its offices had made guarantee decisions
    without feasibility studies and other required documents, such as
    business plans. We make a recommendation to USDA aimed at reducing
    future losses by clarifying when feasibility studies should be
    obtained. Background    Under the Guaranteed Business and Industry
    Loan Program, a loan is made by a lender, such as a local bank,
    and the Service agrees to guarantee the loan's repayment in the
    event of a loss. According to the program's regulations, business
    and industry guaranteed loans are to be quality loans that provide
    lasting benefits. The Service is responsible, in part, for
    determining whether a borrower is eligible, whether a proposed
    loan is for an eligible purpose, and whether the borrower is able
    to repay the loan and has sufficient collateral and equity. Within
    USDA's organization, the Service is located in the Rural
    Development mission area. The agency's national office in
    Washington, D.C., provides policy direction and guidance on loan-
    making and loan-servicing and reviews and approves certain loans.
    Many of the loan-making and -servicing functions are performed by
    staff in the Rural Development mission area who are located in
    field offices throughout the country. The maximum loan currently
    allowed by the Service is $25 million. The directors of USDA's
    Rural Development state offices have the authority to approve
    guarantees on loans of less than $5 million and must forward
    applications for guarantees of $5 million or more for concurrence
    by Service headquarters officials. The Service's guarantees
    generally range Page 2                           GAO/RCED-99-249
    Rural Business and Industry Loans B-283280 from 60 percent on
    loans of more than $10 million to 80 percent on loans of $5
    million or less. In addition, the Administrator of the Service can
    approve a guarantee of up to 90 percent on loans of $10 million or
    less. The interest rate on a guaranteed loan is the rate agreed to
    by the lender and the borrower. According to Service officials,
    this rate is generally the lender's prime rate-the rate a lender
    charges its best customers-plus 1 to 1.5 percentage points. The
    Service's lending has increased sharply in the past several years.
    During fiscal year 1994 through fiscal year 1998, over 1,380
    borrowers obtained about 1,620 guaranteed loans with about $1.8
    billion in outstanding principal as of September 30, 1998. The
    Service made almost 64 percent of these loans during the last 2
    fiscal years (1997 and 1998). More Consistent
    During fiscal year 1994 through fiscal year 1998, the Service did
    not follow Application of                   its own lending
    requirements in guaranteeing loans to 18 of the 24 borrowers who
    obtained loans on which it paid losses. Of the loans to 18 Lending
    Requirements borrowers, 11 were missing feasibility studies, 3 had
    feasibility studies Could Have Limited               with
    significant flaws, and 4 were questionable, considering the risk
    of the businesses and their potential for losses. For the
    remaining six borrowers, Losses                           the
    information we obtained from the Service's loan files was
    insufficient to clearly identify specific problems with a
    guarantee-or there may not have been problems. Thus far, the
    Service has paid losses of $13.4 million on the $35.6 million
    loaned to the 24 borrowers.4 Appendix 1 lists these borrower's
    loans, identifies some of the documents contained in the Service's
    loan files for them, and indicates the number of months to
    delinquency and the amounts of the loan losses. The Service's
    lending regulations and requirements are intended to ensure that
    borrowers' business projects are sound, that the borrowers are
    creditworthy, and that the government's risk of loss is minimized.
    Before December 23, 1996, the Service's lending regulations
    required a loan application to include, among other things, a
    feasibility study in all cases unless a waiver was provided by the
    Service's staff,5 financial information on the past performance of
    the borrower's businesses, and a forecast of the business's
    financial performance. Twenty of the 24 borrowers in our 4Losses
    on a few of the loans were not final as of June 1999-the loss rate
    on the 24 loans is 38 percent, while loan losses have been about a
    13 percent over the life of the program, from 1974 through 1998.
    5The requirement for a feasibility study could be waived for
    existing businesses when there was thorough documentation showing
    that the financial interests of the lender and the government were
    protected. Page 3                                      GAO/RCED-
    99-249 Rural Business and Industry Loans B-283280 review obtained
    guarantees on loans when these requirements were in effect. On
    December 23, 1996, the Service stopped requiring a feasibility
    study and gave its staff the flexibility to request a feasibility
    study for start-up businesses or when a business proposal would
    significantly affect the financial operations of the business. The
    Service Director responsible for loan making explained that while
    the Service has not issued further instructions, it expects its
    staff to request a feasibility study when an existing business has
    been less than very successful, there are indications of weakness,
    or a new or existing business's forecasts of future results appear
    overly optimistic. Furthermore, a borrower's loan application must
    contain, among other things, a detailed business plan6 and a
    thorough analysis of the borrower's creditworthiness by the
    lender. The regulations state that the lender is to determine
    credit quality and to provide an analysis of the business that
    addresses the adequacy of the equity, cash flow, collateral,
    history, and management, as well as the current status of the
    industry. The lender is also responsible for ensuring that
    appraisal values adequately reflect the actual value of the
    collateral. Four of the 24 borrowers in our review obtained loans
    under these latter requirements. Once the Service obtains complete
    information from the borrower and the lender, it requires its
    staff to evaluate a proposed loan as a basis for making its
    guarantee decision. Our review of loan file documents and
    discussions with field office and headquarters officials showed
    that the Service guaranteed loans to 11 businesses without the
    feasibility studies that it should have obtained. These businesses
    should have prepared feasibility studies for the following
    reasons: * Four were start-up businesses that obtained guarantees
    on loans before December 23, 1996, when the Service's regulations
    required feasibility studies for new businesses. These borrowers
    obtained the Service's guarantees on loans of $800,000 to $2
    million. The borrowers became delinquent on their loans within 3
    to 23 months, and the Service paid losses totaling $2.1 million on
    these loans. * Six were existing businesses that obtained loans
    from $1 million to $5 million that were significant for their
    financial operations. Five of these six businesses had recently
    experienced financial difficulties, including losses, and the
    remaining business was depending on increasing sales 6The
    regulations also state that if a feasibility study is sufficiently
    thorough, it may not require a separate business plan (7 C.F.R.
    4279.161). The regulations call for a business plan that, at a
    minimum, includes a description of the business and project,
    management experience, products and services, proposed use of
    funds, availability of labor, and materials and supplies, and the
    names of any corporate parent, affiliates, and subsidiaries. Page
    4                                        GAO/RCED-99-249 Rural
    Business and Industry Loans B-283280 within its existing market to
    repay its loan. These businesses became delinquent on their loans
    between 1 and 51 months, and the Service paid losses of $3.2
    million on these loans. * One borrower obtained a loan of $262,000
    to complete the purchase of an ongoing business that appeared
    successful. When the loan was made, the Service's regulations
    stated that Service officials could waive the feasibility study
    requirement if they provided a thoroughly documented justification
    showing that the financial interests of the lender and the
    government were protected. However, the borrower's loan file did
    not contain documentation of a decision to waive a feasibility
    study. This borrower became delinquent within 15 months, and the
    Service paid a loss of $178,000 on the loan. The following four
    cases illustrate situations in which feasibility studies would
    have assisted the Service in deciding whether to guarantee a loan:
* An Ohio borrower. This borrower obtained a $1.7 million loan
    with an 80-percent guarantee in September 1994 to finance the
    purchase, expansion, and modernization of a trout hatchery and
    farm. According to the lender, this business was a start-up
    project. Relying on background information on the industry and an
    analysis of financial projections for the proposed business, the
    lender endorsed a loan to this borrower. However, the lender
    stated that its evaluation of the project was limited in scope and
    that it had been unable to find reliable industry financial
    standards for comparison with the company's projections. Despite
    these limitations, the Service stated in its project summary that
    a feasibility study was not necessary because the lender had
    evaluated the project. About 3 months after obtaining the loan, in
    December 1994, the borrower defaulted on a loan payment and
    thereafter was continuously late in making payments. The borrower
    filed for bankruptcy in June 1996, and the Service paid a loss of
    $270,000 on the loan. * A Louisiana borrower. This borrower
    obtained a loan of about $1.5 million with an 80-percent guarantee
    in January 1995 to refinance existing debt and provide working
    capital to expand the borrower's business of manufacturing engines
    for marine vessels. The company had been weakened financially by
    the research and development expenses of developing a new engine-a
    type of pump engine described as a "totally new" propulsion system
    for the pleasure boat market, including jet skis, inboard boats,
    inboard/outboard boats, and outboard boats. Although the company
    was introducing a new product in a market segment that was also
    new for the company, the loan file shows that a feasibility study
    was not obtained. The company had sales and warranty problems and
    sold its Page 5                           GAO/RCED-99-249 Rural
    Business and Industry Loans B-283280 assets late in 1997. The
    Service subsequently paid a loss of about $70,000 on the loan. * A
    Maine borrower. A Cadillac, Oldsmobile, Volvo, and Mitsubishi
    dealer obtained a $2.5 million guaranteed loan in April 1995 to
    consolidate two sales outlets at a more desirable and visible
    location. Field officials did not require a feasibility study of
    this business, even though success at the new location depended on
    expanding sales within the existing sales market by 20 percent.
    After the relocation, problems with access to the site and the
    placement of signs became evident. In an effort to help the
    borrower, the lender deferred the principal payments and reduced
    the interest rate for the last half of 1996. According to a
    consultant hired by the company 2 years after the loan was
    obtained, the sales potential in that area for the dealer's car
    lines was too limited to support a profitable business at the debt
    level the borrower had incurred. The borrower defaulted shortly
    after receiving the consultant's report, and the Service paid a
    loss of over $1 million after the business was sold. * A
    Pennsylvania borrower. The company, which produced frozen
    stromboli, obtained three loans guaranteed by the Service totaling
    $950,000 in March 1997 to relocate and expand, but its plans
    proved to be unrealistic. The company had planned to relocate,
    restart production with newly manufactured equipment, and multiply
    sales 5 times in one year. The bank noted that the company had
    identified customers but did not yet have contracts that would
    sustain its sales goals. Moreover, this company had incurred
    operating and net losses for the previous 3 years, and sales had
    declined over the past 4 years-from about $1.6 million to $1
    million per year. A Dun and Bradstreet report obtained by the
    lender rated the company as having the highest risk possible.
    Despite these problems, the Service did not require a feasibility
    study or obtain a business plan. After the relocation, the company
    immediately experienced start-up problems with its new equipment
    and obtained an additional loan of $270,000, also guaranteed by
    the Service, to provide more operating cash. However, the
    production problems proved too difficult to overcome; the company
    missed a loan payment 1 month later, in July 1997; and the company
    lost customers. These conditions eventually led to closure. While
    the value of the company's collateral was estimated to be over $1
    million, the sale of its assets brought much less, and the Service
    paid a loss of $849,000. Besides making guarantee decisions
    without feasibility studies, the Service based at least three
    guarantee decisions on feasibility studies with notable flaws. For
    example, one of the feasibility studies examined a troubled
    business seeking additional financing but did not conclude that a
    guaranteed loan would enable the business to succeed. The business
    Page 6                           GAO/RCED-99-249 Rural Business
    and Industry Loans B-283280 obtained two loans guaranteed by the
    Service totaling almost $5 million but continued to decline. It
    defaulted 27 months later, and the Service paid a loss of $1.6
    million on these loans. Four other loans did not meet the
    Service's standards for quality. Specifically, the businesses had
    considerable potential for failure along with minimal collateral
    for recovery in the event of loss. For example, one company
    planned to introduce an innovative tool for servicing oil field
    equipment. It offered a patent and related production equipment as
    collateral but became delinquent on its loan within 3 months,
    after discovering that the depressed oil industry had no immediate
    interest in the product. The Service paid an estimated loss of
    $1.4 million on the company's $1.5 million loan. Another company
    planned to extract metals from wastes, proceeding directly from a
    laboratory experiment to commercial production. The feasibility
    study endorsed the process while also raising questions. The
    commercial plant and an acre of land were pledged as collateral.
    The plant did not work, and the company made only one payment on
    its loan. The Service paid an estimated loss of $900,000 on a
    $950,000 loan. Service officials cited several reasons for
    approving guarantees on loans without feasibility studies and on
    loans that appeared to be somewhat risky. In some cases, field
    office loan specialists said that feasibility studies did not seem
    necessary because descriptions of projects and financial
    projections appeared sufficient. Furthermore, they said the risks
    being taken in some cases were not altogether different from those
    taken with some other loans that were performing well. These
    specialists also said that some of the lenders had excellent
    reputations. As a result, they said, the Service could rely on the
    lenders' evaluations of business proposals. Moreover, state office
    staff said they have not required feasibility studies when it
    appeared to them that (1) the business concepts were known and
    likely to be sound and (2) the government's financial interests
    were protected. In addition, field office staff in the four states
    we visited said they heavily weigh opportunities to save jobs or
    increase employment when they make decisions about guaranteeing
    loans. They also said that one of the goals for this program is to
    use the full amount of the Service's guarantee authority and that
    on occasion they feel pressure to accomplish this goal as well. In
    some cases, staff said, they operate in an environment that
    fosters lending to riskier businesses, and some borrowers might
    not have been able to obtain a loan without a Service guarantee.
    In addition, the intensity of local interest in assisting some
    businesses can affect the Service's decisions. Page 7
    GAO/RCED-99-249 Rural Business and Industry Loans B-283280 The
    Service itself has identified similar deficiencies through quality
    control reviews of its field offices performed by its headquarters
    staff over the past several years. These problems included
    guarantee decisions made without feasibility studies, business
    plans, and lenders' analyses of borrowers' creditworthiness. For
    example, during fiscal years 1997 and 1998, the Service's quality
    control reviews in 8 of 13 state offices found instances in which
    feasibility studies were inappropriately waived, business plans
    were inappropriately substituted for feasibility studies, and loan
    files did not show that the Service had reviewed lenders' analyses
    of prospective borrowers' businesses. The Service also found
    instances in which borrowers had insufficient equity invested in
    their businesses to meet the Service's minimum standards or
    borrowers' equity could not be determined because field office
    staff had not obtained the accounting statements needed to do so.
    The Service has implemented a variety of actions intended to
    correct the problems found in its field offices. These actions
    include having headquarters officials review loan documentation
    before a loan is approved. The Service has continued to find some
    similar problems through quality control reviews in fiscal year
    1999. Conclusion         Some of the Service's losses could have
    been avoided if the agency had obtained feasibility studies to
    provide a basis for making more informed lending decisions.
    However, the Service has not laid out clear guidance to help its
    field office staff determine when to obtain these studies. As a
    result, there is no assurance that feasibility studies will be
    obtained when they are needed for making prudent lending
    decisions. Prudent and well-supported lending decisions are
    especially important in light of the increased pace with which the
    Service is guaranteeing loans. Recommendation     We recommend
    that the Secretary of Agriculture direct the Service to (1)
    clarify when it expects feasibility studies to be obtained and (2)
    emphasize to its field offices the importance of carefully
    evaluating these studies before making lending decisions. Agency
    Comments    We provided the U.S. Department of Agriculture with a
    draft of this report for review and comment. The Department stated
    that it has observed some of the same issues raised in our report
    and that it would (1) issue an instruction to its staff clarifying
    the requirements for obtaining feasibility studies and (2)
    emphasize the importance of carefully evaluating these studies
    before making lending decisions. In addition, the Department said
    Page 8                           GAO/RCED-99-249 Rural Business
    and Industry Loans B-283280 that it would use our findings to
    support future consideration of regulatory changes clarifying its
    requirements for obtaining and analyzing feasibility studies. The
    Department also provided a few technical comments, which we
    incorporated as appropriate. The Department's comments are
    presented in appendix II. Scope and      To identify loans made
    during fiscal year 1994 through fiscal year 1998 on Methodology
    which losses occurred, we obtained and analyzed information from
    the computerized databases in USDA's Rural Development agency's
    St. Louis, Missouri, Finance Office, where financial and
    statistical data on business loans are maintained. We did not
    verify the accuracy of the information contained in these
    databases. We selected four states-Texas, Missouri, Maine, and
    Pennsylvania-for visits because they had the highest numbers of
    delinquent and problem loans during the period. During our state
    office visits, we reviewed Service loan files and interviewed
    knowledgeable staff. In addition, for loans that incurred losses
    during the same 5-year period for the 11 states with loan losses
    that we did not visit, we obtained and reviewed specific
    documentation from each loan file, such as the loan project
    summary, lender's credit analysis, feasibility study, business
    plan, reports of visits with the borrower, and reports of
    delinquencies and losses. We also obtained information about the
    quality control reviews the Service conducts of its field offices.
    We performed our work from February through July 1999 in
    accordance with generally accepted government auditing standards.
    As agreed, unless you publicly announce its contents earlier, we
    plan no further distribution of this report until 30 days after
    the date of this letter. At that time, we will send copies of this
    report to the appropriate Senate and House committees; interested
    Members of Congress; the Honorable Dan Glickman, Secretary of
    Agriculture; the Honorable Dayton Watkins, Administrator of the
    Rural Business-Cooperative Service; the Honorable Jacob Lew,
    Director, Office of Management and Budget; and other interested
    parties. We will also make copies available to others upon
    request. Page 9                            GAO/RCED-99-249 Rural
    Business and Industry Loans B-283280 Please call me at (202) 512-
    9889 if you or your staff have any questions about his report. Key
    contributors to this report were Charles Adams, Larry Van Sickle,
    and Jerry Hall. Sincerely yours, Robert E. Robertson Associate
    Director, Food and Agriculture Issues Page 10
    GAO/RCED-99-249 Rural Business and Industry Loans Page 11
    GAO/RCED-99-249 Rural Business and Industry Loans Contents Letter
    1 Appendix I
    14 Loans, Loan Losses, and Loan File Documentation for 24
    Guaranteed Business and Industry Loans Appendix II
    24 Comments From the U.S. Department of Agriculture Abbreviations
    GAO          General Accounting Office USDA         U.S.
    Department of Agriculture Page 12
    GAO/RCED-99-249 Rural Business and Industry Loans Page 13
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Type of              Purpose
    Loan          Date of                  Months to State
    business             of loan
    amount              loan                delinquency New start-up
    businesses without feasibility studies Ohio            Trout
    hatchery and Finance the acquisition,                 $1,700,000
    9/19/94                           3 farm
    modernization, and expansion of an existing facility. The lender
    identified this project as a new business. Missouri
    Assemble, finish,    Purchase machinery,
    $1,960,500         3/28/95                          23 and sell
    aircraft    equipment inventory, tooling, and component        and
    proprietary materials and parts.               start up at a new
    site. North Dakota    Establish a          Buy building, and
    purchase              $800,000          9/26/96
    4 cooperative for      refrigeration and aeration carrot
    production, equipment. processing, and marketing. Tennessee
    Mobile home          Obtain working capital and
    $1,140,000         2/15/96                          20
    manufacturing        refinance construction debt on a new
    facility. Page 14                            GAO/RCED-99-249 Rural
    Business and Industry Loans Appendix I Loans, Loan Losses, and
    Loan File Documentation for 24 Guaranteed Business and Industry
    Loans Lender's Feasibility    Business        credit
    Service Loss     study          plan            analysis
    evaluation         Comments $270,927     No             a
    Yes               Yes                The lender supported the
    project but stated that its evaluation of the project was limited.
    A feasibility study was not prepared. The business had operating
    problems, was cash-starved, and sold fish at a discount before
    they reached full size, leading to failure. Fish kills also
    occurred. $1,078,619    Waived         Yes             Yes
    Yesb               A feasibility study of this new aircraft
    business was needed. After obtaining the loan, the owners decided
    to change their plans and increase the capacity of the proven
    airplane they had planned to produce, which had been certified by
    the Federal Aviation Administration. The changes to this crop
    duster required recertification, which slowed the start-up of
    production. Also, there were management and inventory problems.
    $441,072     No             Yes             Yes               Yesb
    A new co-op proposed to start the first large-scale carrot
    production in North Dakota. A feasibility study was not obtained,
    and the business plan was not prepared by the company. The manager
    had only 1 year of experience in carrot research and no business
    management experience. The growers did not meet their production
    commitments, and the co-op members did not have a written
    cooperative agreement. $334,845     Waived         Yes
    a                 Yes                A feasibility study of this
    new manufacturing business was needed. Management was not skilled
    in this business or in manufacturing. The company did not achieve
    the production levels needed to succeed. There were quality
    control problems, poor control of expenses and production
    materials, and accounting deficiencies. (continued) Page 15
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Type of             Purpose
    Loan         Date of                  Months to State
    business            of loan
    amount            loan                delinquency Existing
    businesses without feasibility studies Maine          Family
    clothing     Restructure debt to pay off               $1,000,000
    1/20/94                          51 and footwear        loans held
    by an out-of-state creditor. Louisiana      Rice mill operation
    Acquire rice milling equipment,           $5,000,000
    11/16/94                          30 and debt refinancing
    Louisiana      Marine vessel       Refinance existing debt and
    $1,508,500              1/4/95                          35 engine
    provide working capital to manufacturing       introduce new
    marine engine Oklahoma       High-precision job Refinance debt and
    obtain                  $1,250,000             4/19/95
    24 shop for            working capital automated machine parts
    Maine          Automobile          Relocate and construct new
    $2,478,500             4/19/95                          25
    dealership          facility to consolidate and expand business
    Page 16                                 GAO/RCED-99-249 Rural
    Business and Industry Loans Appendix I Loans, Loan Losses, and
    Loan File Documentation for 24 Guaranteed Business and Industry
    Loans Lender's Feasibility    Business        credit
    Service Loss     study          plan            analysis
    evaluation         Comments $95,741     Waived         a
    Yes               Yes                The company had sustained
    losses for several years before obtaining the loan because of
    increasing competition from other retailers. A feasibility study
    was waived because collateral appeared sufficient, but past
    performance indicated a troubled company, so a feasibility study
    should have been done. The company started closing stores 3 months
    after obtaining the loan because of losses. The owners struggled
    with declining sales until liquidation was the only option.
    $928,934     No             a               Yes               Yesb
    As sales declined during a renovation in 1994, the company
    incurred net losses. A feasibility study would have been prudent.
    After obtaining the loan, the business was affected by competition
    from Mexico and the death of the owner. Service officials
    indicated there were concerns about financial irregularities.
    $69,818     No             Yes             Yes               Yes
    A service loan specialist advised against guaranteeing this loan,
    saying the company would be too highly leveraged and vulnerable to
    losses. A feasibility study should have been done. However, the
    loan guarantee was approved without comment. Warranty expenses on
    the company's new engine were higher than expected, sales lagged,
    and liquidity problems developed. $171,650     No             Yes
    Yes               Yesb               The company had a $332,000
    loss the year before the loan guarantee was approved. The company
    had poor liquidity ratios and high indebtedness with the loan-a
    feasibility study should have been done. Management problems were
    evident-the owner was inattentive to the business-and losses
    continued as products were priced below cost. $1,037,518    Waived
    a               Yes               Yesb               The business
    needed to increase its sales to succeed in its new location-it
    could have benefited from a feasibility study. After sales
    problems developed, a business consultant hired by the company
    stated that the borrower's investment in the new facility was too
    large for the sales market. The company then filed for bankruptcy
    and sold the business to another auto dealership at a significiant
    loss. (continued) Page 17
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Type of             Purpose
    Loan          Date of                  Months to State
    business            of loan
    amount             loan                delinquency North Carolina
    Physical therapy     Finance the purchase of a
    $262,000              3/29/96                          15 Carolina
    business Pennsylvania    Producing and       Obtain 4 loans to
    relocate and            $450,000              3/25/97
    4 marketing frozen    purchase equipment to expand
    300,000         3/25/97 stromboli           production
    200,000         3/25/97 270,000         6/25/97
    1 $1,220,000 Businesses with flawed feasibility studies South
    Carolina Spawning and         Obtain working capital to
    $2,500,000              1/28/94                          45
    growing clams       construct a building, purchase equipment, and
    improve a leasehold. South Dakota    Grain elevator and Obtain two
    loans-one for                 $3,200,000             11/18/94
    27 seed business       working capital and one for
    1,750,000 debt refinancing                        $4,950,000 Page
    18                                  GAO/RCED-99-249 Rural Business
    and Industry Loans Appendix I Loans, Loan Losses, and Loan File
    Documentation for 24 Guaranteed Business and Industry Loans
    Lender's Feasibility    Business        credit            Service
    Loss     study          plan            analysis
    evaluation         Comments $177,578     No             a
    a                 Yes                This was an on-going
    business, but its market risk was not clear. The loan file did not
    document the basis for not obtaining a feasibility study. After
    the loan was made, doctors began directing patients to the local
    hospital for therapy, and the business failed. $305,850     No
    No              Yes               Yes                The bank's
    credit analysis noted that the 211,040
    guarantee would greatly mitigate the fact that 142,156
    the company had losses in 3 of the 4 189,866
    previous years, with sales declining from $1.6 $848,912
    million to $1 million-a feasibility study should have been done.
    After expansion, the company experienced production difficulties
    because of problems with new equipment. It was unable to overcome
    these problems and sales declined. $1,474,687    Yes            a
    Yes               Yes                The Service guaranteed a loan
    to get this business started in 1991. The feasibility study for
    the 1991 loan was prepared by a researcher who became the
    company's scientist-and it called for a very large expansion of a
    noncommercial project developed by this individual. Although the
    original study was not done by an independent consultant, as
    required, and the company had sustained losses, the feasibility of
    the project was not reexamined before this additional loan was
    made. Production problems continued, and creditors eventually
    forced the company into bankruptcy. $936,368     Yes
    Yes             Yes               Yes                This was a
    long-established business. A 661,436
    feasibility study identified significant $1,597,804
    concerns with its organization, management, and sales. However,
    the study did not conclude whether the company could succeed with
    a loan. After obtaining the loan, sales and profit margins were
    lower than forecast because of a depressed market. The company was
    not in compliance with its loan terms 7 months after receiving the
    loan. (continued) Page 19
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Type of             Purpose
    Loan         Date of                  Months to State
    business            of loan
    amount            loan                delinquency Pennsylvania
    Aluminum            Obtain two loans to refinance
    $1,000,000             7/31/96                           3
    windows, doors      the debt of a company in
    1,000,000 and vinyl           bankruptcy reorganization
    $2,000,000 replacement windows Businesses with considerable risk
    of loss Texas           Maintenance tool    Purchase land,
    building,                $1,499,000             1/19/95
    3 and technology      machinery, and equipment and obtain working
    capital Iowa            Bowling alley       Purchase an on-going
    business             $420,000             5/12/95
    11 Missouri        Waste recycling     Purchase equipment and
    $950,000              3/6/97                          13 property
    and construct building Missouri        Restaurant          Open
    and furnish a start-up               $190,000             8/27/97
    2 restaurant Other businesses Mississippi     Manufacture fire
    Construct a building and                  $400,000
    4/28/94                          46 trucks, fire-       purchase
    land, machinery, and fighting equipment equipment business
    Missouri        Restaurant and bar Assume a loan for an existing
    $140,000             8/18/95                           5
    restaurant and bar Page 20
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Lender's Feasibility    Business
    credit            Service Loss       study          plan
    analysis          evaluation         Comments $704,945       Yes
    a               Yes               Yes                The company
    was in Chapter 11 bankruptcy 811,434
    proceedings and hoping to restart when it $1,516,379
    obtained loans. The company had a history of declining sales and
    proposed to reestablish sales with prior customers and develop a
    new product line. The feasibility study was not clear about the
    potential for quickly reviving sales levels. After the loan was
    made, the company found that prior customers had made other plans,
    and the business failed. $1,400,000      Yes            a
    Yes               Yesb               The idea was innovative but
    could not be (est.)
    marketed in a depressed oil industry. Only one loan payment was
    made, and that was 7 months late. $191,073       Waived         a
    Yes               Yesb               A special disaster loan was
    made to a bowling alley mechanic with some day-to-day experience
    in operations but no financial management experience. Waiving the
    feasibility study was questionable because the business was highly
    leveraged with loans. Financial management of the business was
    weak. $900,000       Yes            Yes             Yes
    Yesb               This project was designed to commercialize
    (est.)
    a laboratory experiment. The feasibility study did not clearly
    identify the problems with this idea. The plant equipment could
    not extract metals from waste streams as envisioned and could not
    be put into operation. $150,000       No             Yes
    Yes               Yes                The restaurant was located at
    a distance (est.)
    from the lunchtime crowds on which it depended. A feasibility
    study might have identified this location problem. The restaurant
    also developed a poor reputation for quality, and there were
    management and partnership troubles. $61,505       Waived
    a               a                 No                 The loan
    application indicates a successful company, but key financial
    documents were not on file, including an evaluation of the loan
    application. The company sustained losses after obtaining the
    loan. $114,713       No             a               a
    Yesb               The purchaser owned another restaurant. The
    business failed through lack of customers, poor management, and
    personal problems. (continued) Page 21
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix I
    Loans, Loan Losses, and Loan File Documentation for 24 Guaranteed
    Business and Industry Loans Type of             Purpose
    Loan          Date of                  Months to State
    business            of loan
    amount             loan                delinquency Wisconsin
    Long-distance       Refinance debt and purchase
    $2,450,000             12/21/95                          12
    hauling and         additional trucks transportation broker Maine
    Craft and hobby     Construct a new facility on
    $950,000             12/29/95                           6 leased
    land and purchase equipment, and fixtures Texas        Franchise
    Construct a building and                  $800,000
    12/31/96                           8 restaurant          purchase
    machinery and equipment Missouri     Specialty bakery    Purchase
    a building and                         $37,300         7/22/97
    3 equipment (two loans)                            22,800 $60,100
    Total
    $35,638,600 Page 22                                  GAO/RCED-99-
    249 Rural Business and Industry Loans Appendix I Loans, Loan
    Losses, and Loan File Documentation for 24 Guaranteed Business and
    Industry Loans Lender's Feasibility    Business         credit
    Service Loss     study          plan             analysis
    evaluation           Comments $80,886     Waived         Yes
    Yes                  Yesb                 Freight rates and volume
    experienced downward pressure. Rising fuel costs led to losses.
    $127,738     Waived         a                Yes
    Yes                  This company's business appeared to be sound,
    but a competitor decided to hold a liquidation sale at the same
    mall, continuing for months. The business was unable to continue
    making lease and loan payments while sustaining heavy losses.
    $400,000     Yes            Yes              Yes
    Yes                  This franchise sit-down restaurant
    opportunity along a well-traveled highway appeared to be viable.
    However, it was located next to a truck stop and had very limited
    sales. $22,740     No             No               Yes
    Yesb                 This was a very small business. The borrower
    walked away from the business after 3 months without explanation
    and mailed the keys to the lender. $13,493,139 aNot required when
    the loan was made. bService evaluation was incorporated in the
    project summary document with limited narrative. Source: Service's
    automated financial records, loan files, and Service officials.
    Page 23                                     GAO/RCED-99-249 Rural
    Business and Industry Loans Appendix II Comments From the U.S.
    Department of Agriculture Now on p. 2. Now on p. 9. Page 24
    GAO/RCED-99-249 Rural Business and Industry Loans Appendix II
    Comments From the U.S. Department of Agriculture (150129)    Page
    25                            GAO/RCED-99-249 Rural Business and
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