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Finding the Right Fit; Small Companies and Banks


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Blogged By: 
Doug Devereaux

ManufacturingAmerican manufacturers are saying that business is booming, but many of them also say that banks aren’t keen to provide the loans necessary to hire more workers, buy new equipment, and ramp up production. According to Biz2credit, a New York firm that matches borrowers with lenders, a recent analysis found that loan approvals at large banks (those with $10 billion plus in assets) fell in April for the second straight month.

Banks are saying that they’re willing to lend but also admit that they are proceeding with caution, especially with loans to smaller, or contract manufacturers. Recent articles note that “the slow pace of the economic recovery is causing both borrowers and lenders to proceed with caution” and “ the slowdown in small-business lending is due to the March expiration of a temporary 90% guarantee on SBA loans and the reinstatement SBA loan fees that had been temporarily waived to stimulate lending.”

However, I would like to suggest that the continued tightness in business lending may be a reflection of banking strategies employed by different sized banks. Big national banks are much more likely to have been affected by the mortgage backed security mess and the subsequent increase in bank oversight and regulation has encouraged them to reduce risk and tighten lending. Smaller banks, meanwhile, which have traditionally made their living off of smaller loans that they carry on their own balance sheets, seem to have increased their small business lending.  

Some people have characterized the situation as one of institutional fit— Small Businesses, Big Banks: Good Fit? . In other words, in the current lending environment, size apparently matters. For example, a recent article by CNN/Money “Manufacturers to banks: We need money now” cited the difficulty of one small firm with booming sales to secure a loan of $140,000 for hiring new workers and increasing production. Unfortunately, this company is not alone in its experience; for many small companies, loans in the range of $150,000-$250,000 are more difficult to secure these days. A 2011 report commissioned by MEP, “Connecting Small Manufacturers with the Capital Needed to Grow, Compete and Succeed,” found that there was a varying degree of availability of capital by geographic location, and a gap in working capital loans in amounts ranging from $150,000 to $500,000.  For the nation’s very largest banks, the current low interest environment also makes loans of this size not particularly attractive to carry on their balance sheets.

The decline in loan approvals are leading many small firms to explore cultivating relationships with the smaller community banks whose practices may focus less on formula-based lending practices that many national banks have adopted in recent years. Other companies are looking toward alternative lenders like credit unions, Community Development Financial Institutions, micro lenders, and even alternative online lenders. Companies are finding that while rates and fees may not be significantly less than at some of the larger banks, these types of lenders may be willing to offer different terms in exchange for risk premiums to provide loans to smaller companies.

Having said that, one aspect of the current lending environment that may be fairly widespread, regardless of the size of the lender, is the requirement that small companies provide personal guarantees to the lender. Given that most small manufacturers, especially machine and job shops are organized in a way where income is passed and taxed at the individual shareholder level and not at the corporate level, this is not surprising. At the end of the day, for most banks it still comes down to the Five C’s of Credit: character of the borrower; capacity of the borrower to take on new debt; capital that the borrower has invested in the business; current economic conditions, and collateral from the borrower.

Original posted at http://nistmep.blogs.govdelivery.com/2012/05/21/finding-the-right-fit-small-companies-and-banks/

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