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The Liquidity Squeeze – Small Business Financing and Sub-prime Loans

As news of the continuing problems in the sub-prime mortgage markets spreads, most people do not expect to be affected by it, since they do not have a sub-prime loan. Business borrowers especially may be wondering how problems in the residential markets could impact them, “How could someone else’s bad home loan impact my business?”

What has happened? Almost everyone knows this part of the story by now. Throughout the housing boom, some residential lenders attracted “sub-prime” borrowers to the table with low, adjustable rates. The residential lenders then assembled them into packages and sold them in the financial markets as securities.

As the fixed periods of these rates ended, the recent increases in rates (as an example, the Federal Reserve raised its key rate for 17 straight quarters from 2004 to June 2006 – from 1% to 5.25%) drove their home payments beyond their ability to pay. Although many of these borrowers were able to re-finance with fixed-rate mortgages, too many were not so lucky. Combined with a slowing housing market, these home-owners found themselves stuck in a mortgage that they could not afford. This has led to the “sub-prime meltdown” we are all hearing about.

So, what does that have to do with the lease on my forklift or the re-financing of my warehouse, asks the entrepreneur? Well, over time, the financial markets have become globalized – like every other market. Many of the same investors who bought those sub-prime mortgage securities buy securities in commercial loans or invest in private lenders or equity firms. Now, these funding sources have become skittish and are wondering if they should hold on to more of their money – just in case something else is going to happen. Also, as the sub-prime securities exceeded their expected levels of default and investors stopped buying new securities, lenders were left with billions of dollars of securitized mortgages on their books and were unable to flip them to replenish their funds for new loans – residential or commercial.

That means a decrease in supply and, as all of you business owners know, that leads to increased prices. Also, as with many markets, there is sometimes a “knee-jerk” reaction to raise prices because everyone knows you raise prices in this kind of situation. This is causing what many economists are referring to as a “liquidity squeeze”. A “liquidity squeeze” is where the riskiest borrowers are cut out of the market.

What is next? Well, there are two main paths that this could take – bad and good – with varying levels of pain for everyone. The bad path is that the sub-prime problem is more massive than anyone can foresee, that millions more are on the verge of foreclosure, and that we go from a “liquidity squeeze” to a “credit crunch”, which is where no one can get a loan.

The good path is that this is a temporary bump in the financial markets and that once the dust settles and everyone sees that there are not anymore shoes to drop, things can return to normal (normal being pre-boom with stricter underwriting standards) and rates will come back down some (there will still be less money out there and its owners will be more risk adverse).

Which will it be? That is a tough call for experienced economists, but the consensus of what I am reading and hearing from them in person is that we will follow the good path. Based on their arguments, I am going to come down on the side of the optimists in this case.

Why? The optimistic economists are pointing to a number of factors: 1) the global and US economies are still strong overall – in the US, inflation is low (though not low enough for the Fed to be excited about cutting rates, although that may be changing, growth varies from moderate to strong, and employment is high; 2) the Federal Reserve has room to reduce rates if necessary to improve liquidity; 3) estimates are that a significant number of the sub-prime borrowers were able re-finance their mortgages; 4) as a percentage of the overall, global financial markets, sub-prime residential securities are a relatively small segment (according to Ken Goldstein, an economist for the Conference Board, in a recent CNNMoney.com article, sub-prime makes up only 10% to 15% of a $10 trillion mortgage market and of that, only some 15% is at risk); 5) a portion of these sub-prime borrowers were investors with multiple loans who were stuck with too much inventory rather than primary homeowners; 6) although everyone is in agreement that housing sales will slow, many of the construction job losses associated with reduced housing starts have been absorbed by the economy; and 7) a total housing market collapse is generally triggered by people losing jobs in large numbers, which is not happening.

Against this, the pessimistic economists point to the impact that reduced customer spending from higher home payments and reduced home equity (thanks to substantial drops in home prices) will have on the economy. However, as one economist noted at a recent commercial real estate event, the economy was already moving out of the “consumer spending” phase and into the “business expansion” phase and is not as dependent on consumers to keep it going. He mentioned that the “massive” drops in the number of home sales are just returning us to what were considered great levels prior to the boom (i.e. we have been spoiled). Also, people need to be in fear of losing their jobs and not see their income growing to really cut back on spending. Neither of these is the case and the Conference Board recently reported that consumer confidence is at a six-year high.

What does all of this mean for your business? If we follow the path of the optimistic economists as I expect we will, this means that everyone is going to be forced to live with a spike in the cost of money for the short-term (probably three to six months) and real difficulty finding funding for less-than-perfect-credit businesses or higher-risk ventures until the markets calm themselves.

Deals that were tough to do two months ago may not even get out the loan officer’s in-box and even the easier deals will take longer to fund. Lenders will want to prove to their investors that they are doing all necessary due diligence and will be sure to tighten their standards. It will be more important than ever to prepare a good, clean package that contains no surprises.

As the market corrects in the long-term, there will be more news of sub-prime loan delinquencies in 2008 as another $500 billion+ of “teaser-rate” loans reset to market and it would not be surprising to hear that a few hedge funds and private equity firms have closed shop. However, these are now known problems and, unless there are more surprises, the market will adjust for them in advance.

You can expect interest rates to be higher than they were prior to the sub-prime problem on average (it is more likely that lenders and investors will price more appropriately for risk) and that the more stringent lending requirements will remain in place. It will mean a need to plan further ahead as deals will take longer to fund. The tougher deals will be possible, but they will pay more of a risk premium and face much more attention than many in that market have been accustomed to receiving.

However, we should move out of this “liquidity squeeze” and good deals with good packages will continue to move forward, albeit with a bit more scrutiny.

How to Get Business Financing in a Tough Credit Market

The credit markets have been tightening for the last year and personal credit has become more and more elusive. Now, more than ever, we are starting to see a tightening on business credit and loans offered by banks. Banks are tightening their standards and dropping more liberal business loan programs as well.

Just a few months ago, BofA offered an express business line of credit program that even entrepreneurs in business just a month or two could qualify for with the right credit scores. They pulled the program in the last quarter. American Express for years has offered a Business Line of Credit program that entrepreneurs could apply for in addition to their American Express credit cards. The line of credit was competitive in the industry with interest rates and most small business owners with an American Express credit card were getting approved. The program was pulled in the last quarter.

The closing of great programs such as the BofA Express Line of Credit and Amex Business Line of Credit are signaling the need for small business owners to find alternative ways to finance their businesses. There are several unconventional methods that most entrepreneurs can use to build up access to capital they will need from time to time. Some of these methods include: merchant account cash advance programs, equipment leasing, equipment sale-lease back, A/R Factoring and trade credit (also known as corporate credit or business credit).

Trade credit is the single largest source of lending in the entire world. It is when one business sells services or products to another business on credit terms. For example, when Dell Computers sells a laptop to a small business owner, the business owner is given a choice: pay now with a Mastercard/Visa/Amex credit card, apply for a Dell Computer line of credit or apply for a Dell Computer Credit Card. When the small business owner chooses to apply for a Dell Credit Line or Credit Card they are using trade credit. Dell will then offer terms to the applicants who qualify. Terms may include no-interest for 30 days if paid in full, or an interest rate charged each month a balance is carried and a small monthly payment that must be made on the credit card.

If the business owner has structured their company properly before applying for the credit, they will likely receive an approval based solely on the business credit profile, business credit score and how compliant the company is with the business credit market. If the business is prepared and built some initial business credit before applying with Dell, they will likely get approved regardless of what the personal credit score of the owner looks like. This is True trade credit (corporate credit), when you rely completely on the business’ ability to obtain the credit and not just that of the individual owner or officer of the company. Every entrepreneur should have a business credit profile and score. That includes also being in compliant with the lending market.

A business credit profile and score need to be created with all the major business credit bureaus, not just one. D&B (Dun and Bradstreet) is the oldest business credit bureau, although Experian Business and Equifax Business have created very competitive products and services to compete directly with D&B over the last few years. Most credit bureaus create a business credit profile and score when companies report to the bureaus the payment history of their clients. The more companies reporting to a business credit profile, the better. Companies who purchase a business credit report for analysis to determine credit approvals, like to see when others have granted credit already. They would prefer to see several credit accounts with the business, whereas with an individual you may find it more difficult to obtain credit when you have a lot of credit accounts.

Most small business owners seeking financing are looking for the money to purchase a product or service. The majority of time the product or service can be found through a company offering credit terms. Trade credit is used by household supply stores, marketing companies, printers, graphic designers, internet marketing companies, gas stations, equipment companies, auto-dealers, shipping companies, office supply companies, furniture companies and many more.

In addition to trade credit as an alternative financing option there is merchant account cash advance programs. Although this type of financing can be expensive it is still a great option for some businesses. This type of financing is for businesses with a merchant account charging more than $10,000 per month on the account. Many merchant cash advance companies will advance up to three months charges on a merchant account with very little personal credit information required to obtain the loan. The loan is then paid back out of future merchant account activity as a percentage of the total amount charged that month.

Another alternative source of financing is A/R Factoring. If a company has accounts receivable with other businesses with decent history and credit scores, a factoring company will come in and buy the receivables for a discount on the future value. The business gets money now and the factoring company waits for the invoices to be paid. When they are paid by the customers of the business, the factoring company gets their share and repayment on the advance.

A company can also use leasing as an option to finance their business. A lot of equipment and even software can be leased. There is extremely beneficial to start-up companies and those looking for large equipment purchases. The company doesn’t have to pay up front for a large ticket item, which than conserves cash for the growth and day to day operations of the company.

Small business owners need to get creative when it comes to building a business and finding the financing they need. Using trade credit and other alternative financing options just may help your business avoid the obstacles and pitfalls so many have fallen into and lost. For creative solutions for your business financing needs go to http://www.bcscredit.com and get a free eBook on Building Business Credit for Business Owners.

Make Use of Small Business Loans!

Businessmen often have a tough time with money. Since the business requirements cannot be predicted, you should keep yourself prepared to face any kind of situation. If you lack funds, you can explore other options. It is humanly not possible to have the desired amount at any given point of time. If you fall in this bracket, you can make use of online small business loan.

There are two ways to avail a loan. Either you can approach a traditional lender or look online. The traditional method of availing funds is very time consuming. To start with you will have to spot a lender who offers such loans. Then you will be required to provide documents as desired by the lender. They will take some time to verify the documents. You will have to be prepared to wait for some time.

However, with the online option, the process of availing funds is simplified. Herein, you just need to log on to the relevant website. Then you can browse through various sites. There are innumerable options online. You can choose from a host of loans. You need not spend a lot of time availing these kinds of funds. From within the comfort of your home, you can avail the funds.

You may either need a small or large amount of money for business needs. You have the choice to choose from different types of funds. Looking for small business proliferation? No time to wait for an approved small business loan? You can take refuge in online small business finance!

Yes, these types of finances have been simplified to suit the short term needs. These kinds of finances are offered on the basis of your business plan. If you are ready with a business plan, you can fulfil them through these kinds of funds. The online lenders offer you a range of funds. They will guide you at every step. You are saved from the hassle of looking for funds when you apply for them online. In turn, you will also end up saving thousands of pounds with the competitive online funds. You don’t have anything to lose – not even your precious time because availing these kinds of finances is just a matter of a minute! Yes, it’s that easy and simple.

You can utilise the funds for any of your business needs. There is no restriction on the usage of funds. Be it buying a machinery, tools, equipments, investment – you can fulfill them all through finances.