I attended the Seattle Economics Council’s December lunch at Ivars on the waterfront. I must say, these folks organize one of the best speaker series in town IMHO. This month they hosted Mark Costello, a lender relations specialist from the local SBA office. Mark’s talk was my first introduction to the SBA Office of Advocacy – a research group within the SBA. He pulled a fascinating array of data for us about the state of small business.
Some key myth busting – the business failure rate is not as dire as rumor would have it: 70% of businesses survive the first 2 years and 50% are still in business after 5 years. It was not clear how that number is impacted by businesses that are acquired, I’ll guess they show up as no longer in business. I read a paper in the past that made the point that this data only looks at who is still in business and that a closed business is not necessarily a failed business. Back to the data: small businesses have created 65% of new jobs since 1993 and employ 60.2 million people – 50% of total US employment.
I asked what a small business is, exactly – I’ve heard the federal government defines anything under 50 million in revenue as “small”, and the answer is actually more nuanced – to date “small” for the SBA is defined by revenue in retail and services businesses – the exact amount depends on the sector but it ranges from 6.5MM in annual sales (I’ve learned that lenders use MM for millions) to 20MM. For manufacturing and wholesaling it goes by number of employees – 500 and 100 respectively.
The SBA does not lend money directly, rather it provides loan guarantees to back loans made by partner banks in an effort to get them to expand their customer base a bit. The main program is called the SBA 7(a) loan. A typical customer might need the SBA guarantee to get a loan because they have less collateral than the bank wants, a lack of earnings history, they need a longer term than is typical (for example they need to buy a piece of equipment on a 10 year payback instead of the more common 3 year), or they’re in an industry the bank might be inclined to avoid because of a lack of familiarity or a current over-concentration. The SBA will only guarantee 50-90% of a total loan with an absolute cap of a 1.5 million guarantee on a 2 million dollar loan (though that may be expanding).
Customers pay banks loan processing fees to get a loan, and must further pay a fee for an SBA guarantee that can range from 2-3.5% of the guaranteed portion. It takes time to do the additional paperwork and some lenders have the perception that the program is complicated to use. Not all businesses are eligible either.
How has the economy affected small business lending? As you might imagine, loan volumes are down in both numbers and dollars, though SEC VP Desiree Phair noted that the dollars were down less than the numbers. There has definitely been a significant decrease in smaller loans – Mark described a program that banks like Bank of America used that was a quick approval process for loans of 25K or less that accounted for many loans in 2006-2007, but that has dropped off completely. In my banking class the instructors talked about loan scoring and big banks using a very automated process for smaller loans. There was a dramatic difference between the lists of top 10 SBA lenders in the local Seattle District between 2006 and 2009 – BOA along with Capital One and BECU dropped off the list and Washington Mutual is just gone. US Bank was the top local SBA lender for 2009 (FY ended in September) with Mountain West Bank and Numerica Credit Union (new to me!) following.
I looked on the Office of Advocacy Website and found a report specifically on Small and Micro Business Lending. As a finished report it only covers through 2008, and they use FDIC Call Report data combined with Community Reinvestment Act data to cover all bank lending as opposed to just SBA lending. They label all loans under $100,000 as microloans. (vs the Association of Enterprise Organization’s http://www.microenterpriseworks.org/definition which has traditionally been $35,000 or less but I’ve heard it might update to 50,000 – no sign of that on AEOs site though).
Their data? from 2007-2008 loan dollars increased single-digit percentages in every category, but loan numbers increased 15% for under 100K, 11% for over 1MM, but decreased 23% for loans between 100K and 1MM. Ouch! I suspect the 2009 data will be even more of a crunch. When I repeated these numbers to an investor group one member suggested that for under 100K most individuals can swing the loan and so are probably giving personal guarantees, and then for businesses borrowing over 1M the business is probably big enough to guarantee the loan, but companies trying to grow beyond what an individual can fund or guarantee are probably what’s in the gap.
What businesses get SBA guarantees – in my eyes they are the true stuff of community: restaurants, small medical practices (dentists, chiropractors, Drs), hotels, salons, law offices, automotive repair, heating/plumbing, insurance, miscellaneous retail. They do change-of-ownership financing and long term working capital. The SBA does not do speculative construction.
The American Recovery and Reinvestment Act (ARRA) made some big changes – they gave the SBA an extra 730 million on an annual budget of of about 600 million! With that money the SBA increased weekly loan volumes and got more lenders involved – they waived loan fees, did some fixed rate pricing instead of relative to prime, and allowed larger businesses to borrow. They also tried a program called ARC to prop up struggling businesses but it didn’t work out that well. Going forward they’re considering proposals for how to evolve – should they lend to bingger companies? Should they focus on the intermediary lenders themselves? You can keep up with the SBA office of Advocacy by subscribing to one of their many email lists here: http://web.sba.gov/list/