04 Nov Private Lenders Find Big Market In Small Business
Spurned By Banks, Businesses Try New Financing Models
Article Reprint From the Banker & Tradesman
Sunday, November 4, 2012
Capital Idea
By Colleen M. Sullivan
Banker & Tradesman Staff Writer
Four years after the crash of 2008, banks have begun to recover, but regulators’ eyes have never been beadier when it comes to balance sheets. For small business, the tightened business loan market is sparking an interest in alternatives to traditional financing, lenders and investors say. “The average small businessperson is having trouble obtaining a traditional bank loan,” said Michael Ciaburri, principal of Worth Avenue Capital LLC in Guilford, Conn., which helps small businesses obtain alternative financing. According to Ciaburri, up to 80 percent of businesses with $1 million to $10 million in revenue don’t qualify for a loan through traditional underwriting these days.
In Massachusetts, total commercial and industrial (C&I) loans to small businesses are down slightly through the first half of the year, according to FDIC figures, with $3.2 billion in C&I loan volume for the first six months of 201 versus $3.4 billion in 2011 during the same period. That’s the lowest amount in the past four years.
“The reason why banks aren’t approving these loans is the regulatory environment,” said
Ciaburri. “The FDIC has put handcuffs on a lot of these banks when they’re making these loans.” With the decline in real estate values since the crash of 2008, the value of one of the most common forms of collateral small businesses have to offer has taken a big hit. Banks are compelled to scrutinize loan applications for the smallest blemish – and if one is found they’re unlikely to take the risk of offering a loan.
“That small business is a victim of the regulatory environment that is so onerous for these
banks,” said Ciaburri. “The more a bank has to scrutinize a loan the less they want it.”
Ciaburri said there are many options for small businesses seeking alternative sources of capital, including asset-based lenders, factoring or purchase order financing. He works with businesses to come up with a deal that suits their particular situation. Often, however, he simply matches businesses needing a loan with a private individual looking to invest.
“I deal with a lot of wealthy individuals who have cash, and it’s sitting at the bank earning less than 1 percent. They’re saying, this is crazy; the banks aren’t doing anything, why don’t I lend it?” he explained. “I’ve got a lot of private individuals that are lending money and we’re doing loans that the banks wouldn’t do.”
SBA ‘Lifeline’
Interest in Small Business Administration loans (SBA) has also skyrocketed.
“When the market was really struggling, the SBA was a lifeline for businesses and for us in
working with them,” said Joseph Bator, senior vice president and director of small business
banking at Boston-based Eastern Bank.
Eastern has been the leading SBA lender in New England for several years, but since the crash its SBA lending has nearly tripled in volume from 150 loans a year in 2008-2009 to more than 400 in fiscal 2012, which ended in September.
“If we could do it traditionally, we’re not allowed to do it via the SBA,” Bator noted. With the tightness in lending, however, even business that were considered ripe for traditional lending are now being funneled into the SBA program, he said. “We’re doing a lot of service loans –lawyers, doctor, CPAs,” he said, professions that would normally have easily qualified for a standard bank loan, but which lenders have become more wary of in this economy.
Costly Options
For slightly larger firms, new financing models are being created to address the collateral issue. There are a lot of businesses out there without hard assets, “but they’re profitable, and they’re looking to leverage that cash flow,” said Andrew Clapp, managing partner of Arctaris Capital Partners in Waltham. “They’re looking for an alternative.”
Arctaris specializes in royalty financing, a model which has risen in popularity since the crash. In the most basic model, Arctaris makes the loan and companies agree to pay a set percentage of their revenue, usually 2 percent to 6 percent, towards repayment until the loan has been repaid with interest. Its virtue is its flexibility; since the repayment amount is a percentage of sales, if a company has a down quarter its payment declines in tandem with the decrease in its revenue. If the company’s profits increase, it has the option of repaying the full amount quickly without penalty. Small businesses like the idea because it allows them to access capital without having to dilute their ownership, the way that issuing stock would require, Clapp said.
“We typically look at business that has positive cash flow, [anywhere] from a few hundred
thousand dollars in cash flow to the $5-, $10-, $15-million range,” Clapp explained, saying his firm has worked with a range of companies – from a chain of health clubs to a valve
manufacturer to a software firm. But there is one caveat, Clapp said. “They should be growing businesses,” he explained. “If they’re just flat and they’re not growing, it really isn’t the ideal security. A growth business is the ideal business because they can grow their way out of the indebtedness.”
Investors acknowledge that the alternatives they offer are more costly than traditional bank lending. “I say to people the first time I speak to them, if you can get a bank loan, get a bank loan,” said Ciaburri. But for now, he still has plenty of interest from people who have been rejected by traditional lenders. “[When] you get that money and are able to increase your business, it’s all worth it,” he said.
Email: csullivan@thewarrengroup.com