Tight money closing up small businesses at a faster clip
There is trouble on Main Street: Small businesses are starting to fail at an accelerating rate. The continued tight-money policy of the Federal Reserve Board, combined with a softening economy, has pushed many small-business people into the same corner occupied by the bankruptcy lawyers. According to Dun & Bradstreet, commercial and industrial failures this year (as of Aug. 6) totaled 9,808, a 42 percent increase over last year's comparable total. The failure rate has now reached the highest level since the mid-1960s and has doubled over the past two years.
According to Dr. Edward Yardeni, chief economist for e. F. Hutton & Co., "Many small-business men have been hanging on for over a year now. But without an imminent and sharp drop in interest rates, many will soon be forced to declare bankruptcy." Wide-scale failures, he points out, could result in large employment losses and worsen the current economic downturn. The Hutton economist notes that small and medium-size companies have been particularly hard hit by the Fed's tight-money policy, since they often don't have access to funds the same way large corporations do.
This trend, says Frank Swain, chief counsel for advocacy at the Small Business Administration in Washington, "is of great concern to us." He says the SBA "is reviewing its own lending programs to make sure it's getting the most out of them while still staying within its own budget."
In California, however, where a significant amount of SBA loans are made, there is still plenty of SBA money available. Unfortunately, says Cecil Byrd, vice-president for urban affairs at the Bank of America, which makes 40 percent of all SBA loans in California, very few businesses qualify for the loans. He points out that interest rates on them are 2 3/4 percent above the prime interest rate, which is now 20 1/2.
"A lot of businessmen think they can service that kind of interest rate," he notes glumly, adding that businessmen in their desperation for cash "would rather take a chance on disaster than have a disaster." He says the bank has seen its loan losses go up, its delinquencies rise, and its average loan size shrink. It is writing only 50 percent of SBA loans it did last year.
The picture for small businesses isn't entirely bleak. According to Daniel Toll, president of the Walter E. Heller International Corporation, a financial services company, small-business owners are optimistic about the future, provided they can survive the current environment. In seminars that Heller has held around the country for small-business executives, he says, the company finds business people are optimistic that the country is on the right track toward solving its problems. And, he adds, "Even though the failure rate is up, the number of new businesses starting is up, too."
For those businessmen who are in trouble, Mr. Toll says, the traditional advice is still the best advice. This includes trying to pare loans to cut interest costs, speeding collections, and delaying payables. At the same time, these businessmen should be cutting their payrolls, increasing productivity, and deferring long-term expenses, such as research-and-development projects.
"Small businesses have an advantage over large corporations," Toll says, "because they can often be more adaptable. They know their employees on a first-name basis and can institute changes without a great deal of negotiating."
Mr. Swain says the SBA has decided the most helpful thing it can do for small businesses in trouble is to provide management assistance. The agency is still working on ways to best carry out this decision. Swain adds that the SBA is also determined that small businesses will get their share of federal contracts.
Swain says the new US tax law should likewise help some small businesses. The lower individual tax rates will ease the tax burden on businesses run as sole proprietorships or as partnerships.And the changes in the estate-tax laws may mean that some business people can discontinue expensive premiums for extra life insurance. Swain says there are also credits for R&D expenses, and a number of inventory accounting changes that should improve the tax position of small-business executives.
Len Druger, a vice-president for credit policy at Citibank, says businessmen are also trying to reduce their interest expenses by lining up monthly payment fixed-rate loans that have a 3- to 5-year maturity. He says the interest rate on these loans is currently about 18 1/2 percent over the life of the loan.
At the Bank of America, however, Mr. Byrd says the bank is trying to discourage borrowing at a fixed rate and instead is steering businessmen toward variable-rate loans. At present 69 percent of the bank's small-borrower loans fixed rate and only 19 percent are tied to the prime interest rate. The rest are set according to the prevailing rate at the first of the year.
Although small-business people are feeling the crunch, says Swain, the best hope the Reagan administration can hold out for them is that its economic policies work. "If inflation comes down," he says, "and investors believe it will stay down for the long term, we can expect to see interest rates come down." In the meantime, he concludes, "the premium will be on management to survive the crunch."