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This is not a rhetorical question. Startups and small business will drive us out of this recession with the new jobs they will create. Their new jobs replace the hundreds of thousands eliminated at the large global brands whose solutions fell behind. And without access to financing, these new jobs with small business and startups will not be created. So, no this is not a rhetorical question.
And, its answer addresses all of our lives.
So. Where do startups and small business find their financing?
Credit Cards?
Maybe. Maybe not.
Startups that lean too much on credit cards are more likely to fail, according to a new report (PDF) from the Kauffman Foundation. The study found that every $1,000 of credit card debt increases the probability that a new firm will close by 2.2%.
Credit cards have increasingly replaced traditional loans, and this study suggests that taking on credit card debt is one factor that contributes to business failure.
The report notes that “with the recent contraction of credit markets, many new businesses will face difficulties in accessing traditional forms of credit, which likely will create greater demand for credit cards.” - BusinessWeek, Credit Card Debt Hurts Startups.
Let’s think about the implications for a second. The most readily available source of credit for new small businesses is one that, the evidence suggests, damages the business’s chance of survival. Does that strike anyone else as an enormous failure of our financial system? (Anyone...? Bueller? Ok. The answer is yes.)
SBA?
Um...Well. When the SBA unveiled their program of assistance to small business in May there was excitement among small businesses.
But, the results have been slow. 1100-1200 businesses have received loans under this program since then. Roughly, 20 small businesses in each state have received these important bridge loans.
(Have you noticed the impact in your state? Maybe, that's why job losses continue.)
Part of the problem may rest with the incentives for the parties involved in this program. The SBA is properly incented and motivated. Small business is too. What about banks?
“There’s not a lot of profit motive in a $35,000 loan stretched over six years,” said Paul Merski, chief economist for the Independent Community Bankers of America, a trade association. NY Times, Small Business Stimulus Loans Off to Slow Start.
Ah yes. That profit motive. And it’s timeline for achievement.
One would think that banks would recognize the greater multiplier effect for these loans to small business. These loans would mean more jobs. More jobs mean more commerce for their community. More commerce means more deposits in their bank, more businesses opening up, more jobs. More jobs means fewer foreclosures, more loans repaid, more loans taken.
Here in our small town the local banks created a special loan program. Companies would receive preferred rates for several years on a loan if the borrower could point to the loan’s use would result in jobs in our town. Maybe, that’s an idea for Mr. Merski and his organization to consider.
But the criteria for these loans is very stringent. According to the Times, article loan applicants must have been in business at least two years, also have to have shown positive cash flow, if not an actual profit, in one of the last two years.
That leaves out startups from this program. Startups then are back to either credit-card financing. Or..
Venture financing.
My friend Mike Wagner, CEO of White Rabbit Group and blogger at OwnYourBrand tweeted this today: as venture capital becomes more institutionalized, it becomes less venturesome.
Translating for him, ...as venture funds are absorbed by or depend on large financial institutions, whose clients are large corporate brands, they assume the persona of large financial institutions. That means:
A. They become more risk-averse in their investments;
B. They become less willing to fund an innovation that will wipe out the existing market share held by their clients who are... large corporate brands.
Not a good trend.
What’s left? Banks won’t make loans. Credit-card financing will kill you. VCs are becoming risk averse.
Ideas on how to stretch your startup budget. And the Wall Street Journal offers advice to startups who are Starting on Shoestring. Here are several good ideas on how to stretch your dollars. Read it.
Back to the question: Where do startups and small business find their financing? Did we answer it? No. And that’s a problem for our economy’s recovery.
Digression: WSJ offering advice to startups is like VCs becoming risk averse. We live in a topsy-turvy world.
