Small business guide
Microlending is on the rise as more people start up their own businesses and banks cut back on their lending.
Microlenders are generally nonprofit-based community organizations offering loans between $500 and $35,000. Interest rates on the loans range from 9 percent to 14 percent, and their duration can span anywhere from six months to six years, with most of them closer to the short end of that range.
7 steps to take first
There are some steps you can take before asking for a loan. The microlenders you choose in the final step may be able to assist you with getting the information you need.
- Put together a business plan that includes an analysis of your market and its competitors.
- Update your resume and obtain the resumes of other senior managers.
- Pull your business and personal tax returns for the last three years.
- Provide revenue, cash flow and profit expectations for the next three years with thorough explanation.
- If you have an existing business, assemble your financial statements for the last three years.
- Prepare as detailed an explanation as possible for why you need the loan and how it will help your business prosper.
- Identify microlenders in your area. You can find them at The Small Business Administration, or SBA, and at Microenterprise.
There are no official statistics for microlending, but a study from the Opportunity Finance Network, which surveyed 118 of the nation’s 260 microlenders, showed that 63 percent reported an increase in applications for microloans during the fourth quarter, and 48 percent actually originated more loans.
The sagging economy explains much of the growth in microlending. Bleak job prospects have inspired many people to start their own businesses or expand ones they may have begun in their spare time.
And with banks trimming their lending activity across the board, both long-standing small businesses and new enterprises are finding it difficult to borrow from traditional banks.
“We’re absolutely seeing growth,” says Wendy Baumann, president of the Wisconsin Women’s Business Initiative Corp., a Milwaukee microlender, which serves men as well.
“There’s growth in loan referrals from banks (as they cut back lending) and people off the street,” she says. “People are getting laid off or worried about it and looking at entrepreneurial opportunities — part-time consulting or maybe even full-time self-employment.”
Some entrepreneurs who have been in business for years are seeing relationships with their banks deteriorate. “And now they are looking at microlenders to fill some of that void,” says Mark Quinn, executive director of the Greater Newark Business Development Consortium, a New Jersey microlender.
Baumann reports a 15 percent increase in request for loans at her organization from a year ago. Quinn sees an even steeper rise of more than 50 percent. “There’s a tremendous demand for capital,” he says.
Ron Hutcheson, CEO of Smart Funding Solutions in Kennesaw, Ga., has benefited from a microloan he obtained earlier this year from the Atlanta Micro Fund. Hutcheson’s company is a broker for businesses that seek to exchange their credit card receivables for cash from merchant cash advance providers.
He wanted to implement an Internet marketing campaign to attract more vendors to his business. A marketer offered Hutcheson a campaign at a discount — provided he paid for it upfront.
So he sought some cash to finance the campaign. Hutcheson says a bank loan wasn’t an option for him because without tangible assets to offer as collateral, banks have no interest in lending to him. The loan from Atlanta Micro Fund worked out perfectly, he says.
Small business guide
“It was fast, it was very convenient, and it was cost-effective,” he says. Hutcheson declined to specify the amount of the loan but said it carried a 12-percent interest rate.
A process that took two weeks with the microlender would have taken about three months with a bank, he says. “And now with the credit crisis, it’s even more difficult.”
The return has far exceeded his interest payment, Hutcheson says. Smart Funding Solutions has picked up 25 new vendors from the campaign. “We might go back to them when we think about another marketing campaign,” he says.
Microlenders report an increase in applications from small-business owners with high credit scores because banks have stopped lending, says Gina Harman, president of New York-based microlender ACCION USA.
“Credit scores for our applicants last year averaged 580,” says Marvin Bryant, CEO of Atlanta Micro Fund. “Now it’s about 615, and we expect it go up more toward the end of the year.”
At the other end of the spectrum, Harman says an increasing number of applicants also are suffering from credit woes. “We’re seeing people maxed out on their credit cards and additional debt.”
More than 50 percent of entrepreneurs who complete applications for loans from the Greater Newark Business Development are loan-worthy, Quinn says. But it’s only able to lend to about half of them.
This year it will lend more than $1 million, up from about $400,000 last year. “We’ll try to meet as much demand as we can without becoming overextended because the technical assistance that we give is also an important component.”
Importance of training
“Studies show that giving money only takes them (new businesses) so far,” says Keith Weigelt, a strategy professor at the University of Pennsylvania’s Wharton School. “It’s important when people start a business that they have education.”
Baumann says Wisconsin Women’s Business Initiative Corp. makes sure its loan recipients have a thorough grasp on their human resources issues, costs, marketing, financing and sales.
At ACCION, “we work with some clients who might not have a cash-flow statement or tax forms,” Harman says. “We offer business plan writing programs and marketing training.”
With demand for microloans exceeding supply, this year’s fiscal stimulus package earmarked an additional $30 million for the Small Business Administration’s microloan program, which previously totaled $20 million.
The SBA will announce plans for creating more microloans during the summer, says agency spokesman Mike Stamler. The SBA program has produced loan volume of 2,100 to 2,300 in each of the past three years. Loans through the SBA program average about $13,000.
Lower default rate
Microloans started overseas as development tools in impoverished nations. Loans generally totaled $50 to $100, Weigelt says. But here, of course, the figures are larger.
As for untrained entrepreneurs seeking loans, some critics say the money would be better off spent on preparing them to work for large corporations.
“There is some validity to that argument,” Weigelt says. But he says that the default rate for microloans is much lower than for traditional commercial bank loans.
“That’s because (for low-income entrepreneurs taking microloans), you’re not talking about bankruptcy (if the business fails), you’re talking about going hungry.”
Experts say that with the economy slow to recover and banks slow to resume lending, demand will keep growing for microloans. “I think this is very much the theme for 2009 and probably into 2010 as well,” Baumann says. “The upside is that the banks might wake up to very good and competitive sources of alternative finance.”
To be sure, the trend could ultimately reverse. “Once the credit markets are unfrozen and banks do more lending, then we’ll probably see a drop-off in applicants,” Bryant says. “At that point outreach will become more important for us.”