Capitalization in Small Business

Undercapitalization is rated as one of the leading challenges facing small businesses today. Stringent economic times occasioned majorly by the credit crunch and the real estate turmoil of 2008 push business owners against the odds. Securing 504 loan facilities to start or expand a business venture  proves to be a formidable challenge. Banks tighten up their loan eligibility requirements, while reducing its loan sizes simultaneously. Collateral backed loans are both beyond the small business reach and disappointing because most investors shy off from capital properties. John Tozzi states that “commercial lenders could sell their portions of 504 loans after investors had lost their appetite for asset-backed securities in the financial crisis, prompting many lenders to drop out of the 504 loan program’.

The essence of this is a reduced secondary market for the Small Business Administration 504 loans with a direct effect of cutting out finances for small business expansion. Small businesses are destined to shrink further with imminently closing down and job losses. Therefore, it is  paramount that the government ensures the availability of both 504 loans (fixed asset acquisition loans) and 7a loans (financing loans). Facilitative consultations between sector players and regulators are prudent to ensure the success of reviving secondary markets. For instance, the terms governing the issuance of the government-subsidized loans, as well as percentage risks to be taken by banks, should be acceptable to all. Thus, the government has to convince investors purchasing loans to take up the 5% risk, while it takes up 80% and banks take the remaining 15%.

The availability of SBA 504 loans does not fix the problem faced by small businesses. A reasonable timeframe is equally vital, if quantifiable results are to be realized. All players in the financial sector, namely banks, investors and small business owners, need time to adjust to a new state of affairs after loans have been disbursed. For example, investors would naturally wait to see a net effect of loans to the economy before they can fully purchase loans from banks. On the other hand, banks would assess the market interest rate and its effect on the profit margin before creating more loans. Therefore, this means that since waivers and loan guarantees are to expire in the near future, investors will be cautious to see if the introduction of SBA 504 loans will provide a conducive environment for such capital investment as real estate, once an expiry date passes.

If real estate recovers, investor confidence will be restored and small businesses can access credit with capital assets as collateral again. However, if the market fails to respond to the stimulus package, small businesses will continue to suffer from the burden of slump in real estate. Both the expansion of existing companies and creation of new ones will be low anyway. It’s also a high possibility that a spring-back of profitability in real estate will be both a positive step towards the elimination of credit crunch and a sizeable bet at stemming bottlenecks facing small businesses in getting credit finance. Small business owners have to think outside the box in sourcing credit finance, since commercial lenders remain skeptic about providing credit services to them.

Credit cards are one of the sources of credit. After many fruitless efforts to get credit from banks, small business owners switched to credit cards with much ease, despite the high costs. They are more than willing to sign up with the only “caring partner”. In his article “Credit cards replace business loans”, Tozzi describes a situation, when a couple has resorted to credit cards after a failure to qualify for a bank loan because of a lack of capital assets to back it up. This couple was later forced to abandon the use of credit cards, when the interest rate hit 30% and they found it hard to service their loan. This example gives an insight of how hard it is for small businesses to access credit facilities in the present economic situation. Such situations usually befall  small businesses seeking finance for take off.

This is because credit cards are always attractive and easier to get in comparison with bank loans. A rejection by commercial lenders simply gives no other options to small business owners. This completes a trap. The reality of this trap hits, when the credit card holder receives a short notice about a whooping increase in the interest rate from 21 to 30% on his/ her account. The most ridiculous bit of this is the fact that it’s purely legal for a creditor to engage in such acts. This is because the Congress is to create necessary legislation that specifically cushions small businesses from such acts. “The Sweeping Credit Card Reform Law signed by President Obama”, as pointed out by Tozzi in his article, is not doing much to protect small businesses from the changing terms of business credit card companies. This is because of the fact that the law is only applied to consumer cards.

In fact, the law is expected to yield a negative counter effect of the increased interest rate, since credit card companies seek to cushion its profit margin, pending the initiation of the new law. This loophole in the judicial system is one pain that holders of credit cards wish it catch the eyes of the Congress soon enough. However, in stack contrast, credit card companies get a full advantage of this gap. It is a common practice for them, and all efforts are made to popularize the apparent attractiveness and the usefulness of credit cards. They seek an opportunity of creating a profitable business venture. J. Tozzi states in one of his Businessweek articles that “over the last decade, credit card companies have courted small business owners as issuers try to expand beyond the saturated consumer card market… After  issuers have discovered small business segments, they became fairly aggressive about getting small business cards into the hands of some very early stage businesses’”.

The theory behind this is that small businesses have a capacity to attain the growth, which is high enough to justify the risk involved. Visa’s estimated that small business spent 4.7 trillion dollars in 2007. This theory is supported by the fact that these business owners reserve the right to alter credit card terms at their own will and with limited government’s interference. This means that credit card companies will keep calling the shots as long as legislation regulating interest rates of business cards is passed by the Congress. For the time being, small businesses have to contend with credit card companies’ dictates, until there are alternative credit facilities.
President Obama’s proposal to increase SBA loans to 1 million dollars is coupled with a temporal green light on refinancing of owner-occupied commercial real estate (CRE) under the SBA’s 504 program. Small business woes are far from being solved. (Shane) This is because small businesses do not majorly depend on SBA 504 loans for its credit requirements. The intention is for good, but it will not remedy the situation of small businesses. The input is related to the problem, if it is to give solutions. Since the intention is evidently there, Obama’s administration should provide a fitting solution by directing its efforts to business credit card sectors. Perhaps, it should start with controlling the ever changing interest rates plaguing credit cards.

Should this be made a reality, such small business owners as Rosmann would not have to face a situation where their business credit cards are subjected to 3% increase in interest because of the “response to market conditions” (Tozzi). It’s necessary to note that a slight increase in the interest rate leads to a more than proportionate impact on a credit card holder’s account. Legislation, spelling out procedures to be followed before any changes in previously agreed terms of service between a credit card company and an account holder, is crucial. Such legislation will not only boost the economic security of a credit card holder, but also allow a strategic planning powered towards sustenance.

However, most business credit cards may be attractive, since prolonged dependence on them being a preferred source of credit is not encouraged. It can successfully cover a small business for its take off periods, especially dwindling commercial support. This should not, be a reason to extend business dependence, because the future is uncertain. There is certainly no guarantee that tomorrow’s interest rate will facilitate ample loan servicing with acceptable profit margin. Small business owners have everything to gain by settling for bank loans in the long run as opposed to relying on business credit cards. This is because bank loans are governed by binding contracts. This means that a bank cannot change the interest rate after a deal has been sealed.

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