Interest rates are at an all-time low and banks are full of cash and ready to lend. The economy is expanding, inflation is rising and the economic outlook is good. On paper, now is a great time to borrow money to invest in your small business or buy a new business… But in reality, lending preferences in favor of certain groups means that only a select few can access this abundant and cheap capital.
“No bank wants to lend to a three-year business,” said Rob Spivak of MOR Kombucha. “It’s too risky. They say they want 24 months of stable profits, but this is not realistic for a fast growing company. ” Three months ago, Rob thought it was time to move away from the lease and buy a new property for his rapidly expanding business. But the banks categorically refused him. As a result, Rob signed a new lease for a larger facility, and he will have to move his business again in two years.
Rob’s situation is a classic Startup Ploy-22: He can’t get a loan without years of high returns, so instead he overpays rent and moving costs, which in turn lowers his bottom line. The SBA has several lending programs for these startups, such as the Community Advantage program, but most program administrators faced high defaults during Covid-19 and reduced their participation to reduce portfolio risk.
Even small businesses with good financial performance have trouble getting loans if they did not establish good credit relations before the pandemic. “Banks lend money to the guy they already know and lend to,” says Johnny Kang, sales agent for Sky Realty Partners. “They don’t lend new clients. The guys who have strong banking relationships are now making good deals, and the guys just starting out are having a harder time. “
Since the 2008 financial crisis, banks have favored low-risk business clients who have performed well in emerging industries and have been personally guaranteed by an owner with good credit history and high net worth. This eliminates the huge number of small businesses that are most in need of capital, such as start-ups, hard-hit industries such as brick-and-mortar retailers, and low-income entrepreneurs with or without bad credit.
After Covid-19, banks have become even more conservative and provide less and less loans to risky segments. The impact of this is very large – for example, even today, with the increasing number of travel among consumers, it is almost impossible to get a bank loan in the hospitality industry.
“Banks always look at historical financials,” explains Nick Otis, a young real estate investor. “2020 was a loss-making year for hotels, so now you cannot get a hotel loan, even though the industry has recovered.” In his recent search for investment opportunities, Nick saw some excellent hospitality businesses for sale but was unable to get funding. He lost most of the deals to cash investors – organizations with millions of dollars in cash, so they didn’t need loans. “The small investor with the loan always loses to the big guy with the cash.”
The federal government has stepped in to fill the credit gap during Covid-19 with programs such as PPP, SVOG, and EIDL… However, these programs had limitations that exclude post-Covid-19 businesses, businesses that use independent contractors instead of employees, or businesses that operate in certain industries. “Some small businesses have had to double their EIDL and tell me, ‘I don’t know what to do with all this extra money,” my colleague Matt Draymore told me recently. “Others have not passed the EIDL qualification at all and hardly pass by.”
The Indoor Operator Grant (SVOG) was created in December 2020 to save small space for performances and museums. But the SBA, bogged down with the administrative burden of many new and complex programs, did not provide funding until July 2021. By then, masking mandates and social distancing rules had been lifted and many grant recipients had returned to full capacity. For other potential recipients, this was too little, too late.
“Hodi’s Half Note was a popular local meeting place – a true local staple,” explains Pete Coss from Fort Collins, Colorado. “They held out until March 2021 before they finally closed. If only they could hold out for another 4 months, SVOG could save them. “
Access to capital is critical to a business, however capital markets are outside the control of any individual business owner. If your small business is to become one of the winners in the lending world, you must align your business strategy with the existing lending environment, instruments and market opportunities. Build a relationship with your banker during the good times so that they can be with you during the bad. Keep track of interest rates and lending instruments, or partner with someone who does, such as a financial advisor. Stay tuned for news on government programs targeting small businesses. Most importantly, make a financial plan for your business so that you can study the worst-case scenarios and plan for contingencies.
LJ Suzuki is a part-time CFO at CFOshare, the external finance department for small businesses. He assists business owners and managers with strategic planning, mergers and acquisitions, capital planning, cash management, pricing strategy, growth cost analysis, forecasting, budgeting, and incentive planning.