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Liberal Lending Hurts Businesses

Contributed by Farmers & Merchants Bank

Since 1952, U.S. companies have borrowed eight cents for every dollar of new investment. Since 1999, however, that figure has skyrocketed to twenty cents for every dollar. This borrowing-investing balance has served the economy by fueling corporate expansion and entrepreneurial growth, but it also has resulted in companies struggling to repay loans. And given the state of corporate earnings presently, this trend is not one to subside soon.

"The real cloud hanging over the [banking] industry is loan quality," said Bert Ely, an independent counsel in Alexandria, Virginia. "If we slide into a recession, a lot of ugly loans will float to the surface." The faults of liberal loan policies are beginning to be recognized in the increasing number of "ugly loans," or loan defaults, surfacing from the economy's downshift. As the economy flounders and defaults rise, banks are beginning to tighten their belts on lending. And rightly so - excessive loan defaults bankrupt lenders.

In a surprise survey conducted in March 2001 of senior loan officers, the Fed reported that 43.4% of banks surveyed tightened lending standards for small businesses, with no respondents indicating an easing of restrictions for businesses of any size. The message to the commercial public is clear: If you are not an extremely safe borrower, then don't expect a loan from us. Despite this year's dramatic drop in GDP growth, the American economy is still growing and small businesses still need loan financing for their capital investments.

Orange County, in particular, needs the continued fueling of these businesses to sustain its present growth. But local-area banks that have spread themselves thin by issuing too many high-risk loans cannot afford to jeopardize their loan portfolios; meanwhile, banks' self-imposed lending restrictions make loans even more difficult to obtain. So, entrepreneurial and smaller companies struggle to find the loans necessary to get established and/or expand.

The Los Angeles Business Journal recently published one of the most thorough reports compiled on public companies in L.A. A summary article of the study reads: "The report .provides important insight into Los Angeles' public enterprises and offers tangible clues about what it will take to keep the region's economy humming along. Foremost among them is that, to stay healthy, Los Angeles must become more diligent in promoting and nurturing its small and mid-sized businesses." Applied to the current loan situation, the Southern California market must find a way to ensure small businesses can obtain financing from healthy lenders if the market strength of Los Angeles is to be maintained.

Fortunately, the Small Business Administration (SBA) has developed a program to encourage small business growth in areas like Orange and Los Angeles Counties. The SBA 504 Loan Program provides long-term, fixed-rate mortgage financing for acquisition and/or renovation of capital assets. Banks usually require down payments of 25-30% of total loan value for traditional business loans, which mitigates bank risk but drains needed capital from businesses.

The 504 Program, however, requires only 10% up-front from the borrower. The other 90% of the loan is financed by the lender (50%) and the local Community Development Corporation (40%). Coupled with a low fixed rate, qualified small businesses can obtain loans inexpensively and efficiently, depending on the lender they choose to broker the 504 Program.

With financing split in such an advantageous way to the borrower, one would think that more businesses would maximize the potential of this program. But few lenders - and even fewer borrowers - capitalize on this lower-risk, capital-saving loan acquisition process.

Rated the strongest bank in California, Farmers & Merchants Bank is a 504 SBA lender that can certify up to $3.2 million loans for Southern California's small businesses. For more information about participating in Orange County's SBA 504 Loan Program, please contact F&M Bank Vice Presidents Scott Dowds at (714) 578-1945 or Chuck Tyler at (714) 488-8411.