Small businesses suffering from an overly conservative lending market may find are now looking to hedge funds for asset-backed loans, according to a report by www.businessweek.com.

Banks, rattled by the $400 billion loss in bad investments over the past year, have largely cut off lending to small businesses throughout the U.S, forcing entrepreneurs to explore unconventional financing methods. Hedge funds providing asset-backed loans - commercial loans secured by the business’s inventories, equipment, accounts receivables, real estate or other collateral – have become a popular source of credit.

Since the 4th quarter of 2007 lending from 300 asset-based lenders has dropped substantially. Unlike larger corporations, small businesses don’t have large reserves to float the business through tough times. Asset-backed loans from hedge funds generally cost 2 to 3 percentage points higher than the prime rate, require asset appraisal, and may involve physical inspections. Fortunately, the processing time is only a 2 to 3 weeks.

Vendor financing may seem like the obvious answer. It requires little paperwork, time commitment and avoids the hassle of interacting with institutional lenders. However, vendor financing is a much more expensive way of buying equipment than taking a loan product from a traditional bank.

For example, generally franchises tie-up with a select group of equipment financing institutions to offer their franchisees equipment purchasing opportunities. Interest rates on these products can range up to 200 to 400 basis points higher than on a financial product from a traditional bank.

Even gas companies offering prospective gas station owners acquisition financing deals can hike interest rates up to 400 basis points. Not to mention, they’ll lend at a 15-year term and build in a surcharge on fuel sales while a conventional banking product is generally spread over a 25- to 30-year term with no additional fees on fuel sales.

Small business owners need to weigh the 200 to 400 basis point cost savings and the 5 to 7 year longer payback period against the initial hassle and time commitment of gathering documents.