When the Great Recession hit a decade ago, banks essentially shut off the spigot on small business lending. In 2011, when Biz2Credit began its monthly Biz2Credit Small Business Lending Index, which tracks approval rates of small business loan applications, approval percentages hovered near 10 percent. Spring of 2011 represented the low point of the so-called “credit crunch”; the overwhelming majority of small business funding requests – more than 90 percent – were denied.
When banks cut off the flow of capital, competitors responded. Non-bank lenders (merchant cash advance companies, factors, and others) filled the void and became an important source of funding for small business borrowers. These lenders took advantage of technology, accepted online submissions, and made quick decisions. Alternative lenders were willing to provide funding at a time when banks would not and thereby became important sources of small business financing.
The funding came at a premium price, however. Alternative lenders could not match the interest rates that the largest financial institutions were able to offer. They made money available but at 20 percent or sometimes as high as 30 or even 40 percent. Borrowers had little choice during the “credit crunch.”
Big banks ($10 billion+ in assets) are, by nature, conservative. When small business lending was viewed as too risky during a shaky financial period, they clamped down. Alternative lenders became competitors, and the banks lost market share to them.
The big banks follow well established lending parameters based on credit scores, industry risk and other factors that made it challenging for entrepreneurs – particularly for ones trying to launch start-up businesses – to secure the financing to do so. Yet, big banks, with their well-established branch system and brand names built on millions spent on marketing, many times were the first places that small business owners went to for capital. Ironically, they were the most likely to turn them down.
Fortunately, there has been a turnaround for the past several years, big bank loan approval percentages have risen steadily. In the second and third quarters of 2011, big banks approved under 10 percent of the applications hey received. By 2012, the recession officially had passed, and the financial health of many small companies improved. Thus, the banks began approving higher percentages of loans. By December 2012, the figure rose to 14.9 percent. One year later, in December 2013, the figure rose to 17.6 percent, and then 21.1 percent by December 2014.
In 2017, the figure passed the 25 percent benchmark. In January 2018, they approved 25.3 percent of loan requests, a record for the Biz2Credit Small Business Lending Index. With the Federal Reserve slowly raising interest rates on a steady basis, lending has become more profitable, which incentivizes big banks to lend.
For companies that have strong creditworthiness, big banks are a good source. They offer longer terms and lower interest rates than their competitors in most cases. Many of them offer SBA loans, which help newer firms get off the ground. Smaller banks — including community and regional banks — approved 49.1 percent of loan requests in January. They are less stringent in their lending practices because they know the local community and, oftentimes, the borrowers themselves. Startups and young businesses may find small banks as a good source of loans, and they offer competitive interest rates.
Options outside of big banks, include institutional investors, which do smaller volumes, but approve at a high rate (64.3 percent), credit unions, which approve a little more than four-in-ten applications, and alternative lenders. Indeed there are many sources of small business loans today, and borrowers are in a better position than ever before to shop around for the best deal on the internet. They can do it at any time – including nights and weekends – easily by phone. In fact, up to 60 percent of loan applicants on Biz2Credit.com are initiated via mobile technology.
Financial technology has helped both borrowers and lenders. Big banks have invested heavily in their online platforms and now accept digital applications. To a lesser extent, small banks and credit unions have done the same. Many institutions are partnering with FinTech firms to offer easier access to borrowers through the internet. This has improved the whole process for entrepreneurs, as well as lenders.