A Borrower Be

Tough economies and easy credit usually don't mix. So why are banks falling all over themselves to lend small businesses money?

For the first time in decades, small businesses have a choice of lenders eager to start new relationships, even outbidding one another on credit terms in order to attract new business.

Although I have been a financial journalist and have written about banking for more than 40 years, I was very surprised to discover that recent turn of events. In the summer of 2002, the word in New York was that banks were beginning to worry seriously about bad loans and that, as usual, small business was suffering because bankers instinctively think large creditors are safer than small ones. Every day, the collapsing junk-bond market showed that investors wanted larger and larger risk premiums to do business. And that's the way it usually is in a recession. It wasn't until I began talking to the troops in the trenches during the fall that I realized the generals, as so often happens, had gotten the situation wrong.

Large companies can usually throw around their clout to command lower interest rates and more attention from banks than small companies can. But today that paradigm has changed dramatically.

"It is a terrific time to be a small-business borrower," says Tom Hawker, CEO of County Bank in Merced, Calif.

By contrast, rock-solid, nationally known companies that not too long ago might have expected to pay an interest rate only a percentage point or so higher than government rates now find the market and the banks charging them up to three percentage points more than the Fed rate. This is, in short, a rare period when sound small businesses can borrow at rates that may even be better than those paid by larger borrowers.

Things are so good because they are so bad. John Maynard Keynes observed some years ago that prosperity is created by "the animal high spirits of businessmen," and that is something we don't have these days. Small businesses are looking better to bankers because big businesses are looking worse. Many large companies are stuck with business plans that require them to expand their debt. Or they have acquired the bad habit of going into debt to buy back their stock to keep its price high and to satisfy the promises of management options.

"Today's financial market is very discriminating on credit quality," says Sung Won Sohn, chief economist at Wells Fargo, a leading provider of bank credit to small companies. "Small businesses are doing better than larger businesses. They are not under the gun from the stock market. And they can hire better. In tight labor markets, they are at the bottom of the food chain, but now they can hire the people they want."

Caution has also characterized how the small-business world has handled credit. From the banks' point of view, this is a time when most -- perhaps too many -- small businesses are seeking liquidity in order to be confident of their ability to service their existing debt, instead of adding to their debt for the sake of growth. Translation: lenders have to compete even harder for any good loans that are being sought.

If it's been a year or more since you've shopped for credit, take a look again. Talk of a credit crunch may still be circulating, but quite the opposite has panned out. "Early in 2001 there was a credit crunch, but now there's no problem getting credit," says Aaron L. Taylor, a spokesman for the National Federation of Independent Business. "Service-oriented businesses, especially, are borrowing easily, and they find the rates low." A committee of midsize businesses (with $3 million to $30 million in annual revenue) advises the Federal Reserve Bank of New York. This past fall, panel members reported cheerfully that access to credit was good and that the banks were, in fact, marketing to them. Even credit unions have been driven to low-interest small-business lending because the center of their operations was automobile financing. And they find there's no way they can compete with car companies advertising zero-percent offers.

The current situation offers entrepreneurs opportunities to build a foundation that could support growth in years ahead. Savvy businesspeople will take heed: try to take advantage of this opportunity to establish a long-term relationship with a lender that will stick with you when the credit market again becomes tight. Nearly all economists will tell you that when money becomes scarce, only businesses that have long-standing relationships with lenders find credit easily available.

For most small businesses, that means it pays to carefully consider local community banks. Currently, banks are not the major source of credit for business. Only 28% of small businesses get credit from banks. By comparison, 41% get credit from finance companies and brokers, and 60% get "trade credit" from vendors. Given the loose credit market, a better deal might be had by looking at banks instead of using trade credit or relying on finance companies.

Equally important is choosing between a local bank and a big bank. The difference between running a big bank and running a small one, says Rusty Cloutier, CEO of MidSouth Bank, in Lafayette, La., is the difference between coaching an NFL football team and coaching high school. Community banks promote their borrowers; big banks expect their borrowers to promote themselves. "The NFL coach sends this guy out who's being paid $8 million a year to play football; he's motivated. The high school coach has to know the kids, their parents, the town. He has to motivate them."

One person who understands that distinction well is Tom Hawker of County Bank, which has 18 locations in northern California, including San Francisco. He finds that big banks, such as Bank of America and Wells Fargo, are treading on his turf in an effort to poach small commercial and industrial borrowers. When banks approach his customers, they will sometimes even talk about pegging their loans to the London Interbank Offered Rate (Libor). The Libor is the international wholesale rate for dollars and has, at times, been running even below the Fed Funds rate -- and quite a lot below what community banks charge small-business borrowers. "We tell our customers, 'Take those rates; we can't match them,'" Hawker says. "But if you go to Bank of America now to get those rates, when they tell you later that you have to pay three percentage points over prime, don't give us a call."

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