Karen Mills, the former Small Business Association Administration and cabinet member, has recently contributed to a series of working papers as a Senior Fellow for the Harvard Business School. The working papers analyze the current state of capital available to small businesses. The most recent paper dated August 4, 2014 is titled “Why Small-Business Lending Is Not Recovering”. She addresses some of the reasons why lending to small businesses has not returned to the levels they were before the financial crisis and why there is a low expectation for an improvement.
How Small Businesses Drives the Economy
Small businesses create every two out of three new jobs and employ half of the private sector workforce. Small business is responsible for 65% of new job creation. One of the primary reasons that the economy hasn’t fully recovered from the Great Depression is because small businesses are not creating jobs at the rate that is needed. The current credit environment is dampening job creation as bankers say they are lending to small businesses but have trouble finding credit worthy borrowers. Small business loans are down 20% since 2008.
In a survey conducted by the Federal Reserve Bank of New York during the summer of 2013 it was noted that most business owners polled cite access to capital as a top growth concern, but only a third of these companies actually report applying for credit in 2012. A conclusion drawn as a result of that survey was that access to capital is a widespread challenge ? even for profitable firms.
While 37% of small businesses apply for credit, 40% get rejected or receive smaller credit lines than desired.
Reasons Why Small Business Lending Is Not Recovering
Overall business credit scores are lower and commercial real estate values took a hard hit. Commercial real estate makes up 2/3 of assets of small business owners. Banks are still more tentative to take on the risk posed by loaning to small businesses. While community banks have played an important role in small business lending, they represent many of the bank failures in the past decade and few new charters have moved in to that lending space.
The main components as to why lending to small business has not gaining traction is because banks have been raising their capital reserves to comply with regulatory requirements AND they are stockpiling deposits which lessens their ability to underwrite small business loans.
Some Key Takeaways
Federal Reserve research finds that small-business borrowers can spend almost 25 hours on paperwork for bank loans, and often apply to multiple banks. Successful applicants wait weeks or, in some cases, a month or more for the funds to actually be approved and made available. Some banks are even refusing to lend to businesses within particular industries or below revenue thresholds of $2 million.
Banks shy away from lending to small-businesses for these 3 reasons:
- Loans below $1 million are considerably less profitable
- Assessing creditworthiness of small businesses can be difficult
- Costs of underwriting small-business lending are high
Mills’ concluded that if banks genuinely wanted to fund small businesses, there should be rising competition for small business loans. The more competition that exists, the more likely small business customers will receive sympathetic consideration for their loan requests, favorable rates and terms and conditions, and better service. At Universal Funding we have recognized that factoring companies and other non-traditional lenders have entered that space AND are offering low rates to remain appealing to those funding prospects.
Universal Funding, one of the country’s leading invoice factoring companies, has announced a streamlined application and approval process so that approval can be determined in a matter of days. Universal Funding believes that a business owner’s time is best spent running their business, not spending 25 hours to complete an application and waiting weeks to hear about approval.
“We look forward to Mills’ next post exploring efforts to incentivize small business lending. Our hopes are to see the inclusion of more non-traditional finance companies filling up the space that has been left vacant by big banks.” – Henry Wozow, Universal Funding CEO