Small-business lending is re-bounding, albeit at a cautious pace, after the big squeeze of 2008 and 2009 at the height of the economic recession. According to the U.S. Small Business Administration, commercial banks in 2010 began to ease the tight lending conditions they had imposed on small businesses when the economy began its downward slide early in 2007. Loans under $1 million, the ceiling of a typical small-business loan, totaled $695 billion in fiscal year 2009, ending Sept. 30, 2009, up from $687 billion in FY2007. Wells Fargo & Co., one of the nation’s leading banks and which ranks eighth on Entrepreneur magazine’s list of Top Small-Business-Friendly Banks, said it extended $2.9 billion in new loans to small businesses in the first quarter of 2010.
“Since the pre-recession peak in 2007, banks have pared their small-business portfolios and outstanding loans have dwindled. However, there are signs of stabilization in the market. The level of demand for loans and higher credit lines continues to rise. The larger banks are leading the recovery, but the smaller banks are not too far behind,” says Ryan C. Mack, president of Optimum Capital Management and of the nonprofit Optimum Institute of Economic Empowerment Inc.
Mack, who authored the financial freedom tome Living in the Village: Build Your Financial Future and Strengthen Your Community, made his remarks in an exclusive interview with The Network Journal while on the road with his Optimum Institute’s nationwide “Less Talk … More Action” Empowerment Tour.
A backup bank
Despite the easing of lending conditions, businesses still have difficulty accessing credit. Banks are cautious in an economic recovery that is both snail-paced and volatile. While the value of bank loans to small businesses rose between 2007 and 2009, they declined between 2009 and 2010, to $652 billion from $695 billion, and continued to decline during the first half of 2011.
“Small-business lending continues to have a difficult time emerging from the recession,” SBA economist Victoria Williams wrote last October in the SBA Office of Advocacy’s “Quarterly Lending Bulletin.”
Mack agrees. “The economic outlook is certainly improving, albeit slowly. However, credit lines are still tight.” He advises businesses to develop a relationship with a backup bank and to ensure that their financial house is always in order. He suggests two ways to do the latter: create an accurate assessment of your accounts receivable and update your books — through an audit or thorough review of your receipts — to accurately reflect your paid payables. “Many companies like to carry an inflated balanced sheet with accounts receivable that will never see the light of day. At least yearly perform an assessment. For those doubtful accounts, if you aren’t going to take a write-off take them out of your cash projections. Continue the collection efforts and if you get paid consider it a lucky windfall. This will allow you to project a much more conservative picture of your financial condition.”
Cautious about lending, banks are increasing their focus on deposits, which is said to contribute 60 percent to 70 percent to the profitability of their small-business banking units. Aside from deposits and traditional loans, typical banking products for small businesses are SBA loans, credit cards, auto leasing, equipment leasing and 401(k) services.
Small businesses should stay away from bank offerings that are not transparent, or that are outside of the scope of its intended use, Mack warns. “A small-business owner should not compare shopping for a bank to shopping for a grocery store. Many additional products sold have a commission attached to them to be earned by the banker who sells it. So, unlike the grocery store, there is a salesman who might have a vested interest in selling you additional products your business doesn’t need.”
To avoid being succored into purchasing nontransparent or unnecessary products, he advises, businessowners should be clear about their needs before they enter the bank. Once in the bank, they should understand clearly each product that is presented before they make a purchase. “If you don’t understand what you are purchasing, do not purchase it. The phrase ‘I will need to take this home and look this over’ should not be omitted from your vocabulary. You should have a banker on your board of advisers to assist you with this decision-making process,” Mack says.
Businessowners who are considering a bank loan should be as fastidious about vetting the banks they choose as the banks are about those they choose to lend to. The first step is to find out if
the bank is viable, Mack advises. Begin
at the Federal Deposit Insurance
Corp., which provides information on problem institutions at its website, www.FDIC.gov. The site offers insight into what the agency looks for when drawing up its list of problem banks. Businessowners can use this insight to draw up their own list of questions to put to banks, Mack says.
Their list should include such questions as: How much liquidity does have the bank have on its books? Has the bank posted a profit or a loss over the past four quarters? How consistently do they post an increase in earnings? What products and services does the bank offer? Does the bank have the ability to grow with your company? “If the loan does not fit within the bank’s lending limit, or is much larger than its average loan, this can be problematic in the future if your company grows and you seek to acquire additional funding,” Mack warns.
Businessowners should also pay attention to the person with whom they are negotiating and, where appropriate, try to get the lender to see their operations. “Meeting with the person who actually makes the lending decisions and/or their superior won’t guarantee your getting a loan, but it’s always a smart move to speak with those persons,” Mack says. He adds, “If your place of business is impressive to the eye, show it off! Lenders like to see nothing better than a nice looking, seemingly efficiently run place of business. It gives them assurance in providing you a loan.”
Banks, no matter how large or how small, are far less forgiving in today’s postrecession era than they were prior to 2007. Small businesses now must remain in good standing on several levels in order to keep their relationship with banks.
“The days of having a good payment history alone may not be sufficient,” Mack says. “Borrowers must read the fine print and all covenants carefully. Plan Bs and even plan Cs that are well thought out and well written should be readily available to present to your banker in order to get back in line with the covenant, to buy additional time in case you get that dreadful call that you are in violation.”
He urges small-business owners to heed the following tips in order to ensure a favorable rating with banks:
• Minimum balance. The average minimum balance that you sustain in your account over a three-month period is called your “balance rating.” The more money you have in your account over a three-month period the more likely you will be considered viable to pay on a loan or a line of credit;
• Cash flow. The more positive the cash flow, the more positive your rating. As money goes in and out of your account, try to show a positive free cash flow. Banks love consistent deposits;
• Avoid bouncing checks;
• Establish a long bank history.
Sticking with small business
Most of the 27.5 million-or-so small businesses operating in the United States rely heavily on financing from banks in the form of loans, credit cards and lines of credit. The good news is, banks profit so much from lending to these businesses that they would be hard pressed to abandon the segment altogether, even in the most wrenching economic environment. Marketsand-Markets, a U.S.-based market research firm that provides business intelligence to Fortune 500 companies, says banks focused on small businesses lending perform better than peers in terms of profitability, return on assets and return on equity. “Our research indicates that the net interest margin of banks lending to small businesses tends to be 3–4 times higher than that of banks neglecting this segment. Large banks (i.e. those with asset size above $50 billion) have thus already begun tapping the opportunities in this segment,” the firm said in a report, “Lending to Small Businesses, Impact on Bank’s Profitability,” published in June 2010.