We all know that small businesses play an essential role in our economy. How much of an impact do they have? Well, they provide 46% of the Gross Domestic Product. That is why every small business owner needs to pay attention to the state of the economy. Besides you never know when another recession is going to take place.
Many of you may not know that the United States Small Business Administration (SBA) publishes a document called the Small Business Economic Bulletin. Today, we are going to review SBA’s Out 2019 bulletin. Next up, we will go over the indicators that SBA uses to track the economic status of small businesses.
Indicators Tracked by SBA
SBA published its October 2019 Small Business Economic Bulletin. This Economic Bulletin comprises of monthly and quarterly data to highlight the strengths and weaknesses of the small business economy. SBA uses small business strength indicators to determine the economic state of small businesses. The indicators used by SBA are: self-employment increases, proprietors’ income gains, job creation advances, and business births above business deaths.
Next, we will go over the small business indicators in SBA’s document.
Self Employment has been increasing steadily. In fact, since 2016, Self Employment Income (Proprieter’s Income) has increased by 15%. Also, this Income has almost doubled since mid-2009. Now let’s look at job creations.
Small businesses with less than 500 employees are responsible for creating 8.7 million new private-sector jobs since 2005 or 62% of the total. Whereas larger small firms with 20-499 employees and the larger businesses with 1,000 or more have been the primary driving force of the growth.
Business Birth vs. Business Deaths
Since mid-2011, the quarterly rate of new business locations has been above the number of businesses closing their doors. This is good news as this means there are more small businesses opening their doors then there are businesses closing their doors.
Small Business Demands for Loans
This is also good news as the quarterly delinquency and charge-off rates for commercial, industrial and commercial real estate loans are low. These rates are below the 2010 levels and appear to have been steady since 2015. The downside is that the dollar growth in small business loans (less than $1 million) is less than the growth rate of more substantial loans. As a result of the lower growth rates, loans of $1 Million or less have been declining each year. They have fallen by nearly half from 2005 to 2019.
The demand for small business loans is sluggish, even with banks easing their lending standards. Overall the banking conditions for small businesses have not changed a lot in the last five years.
Small Businesses Using Crowdfunding
As I mentioned before, I see many small businesses seeking alternative crowdfunding through sites such as Kickstarter. I am sure that this is having an impact on traditional lending institutions. Another effect was in the mid-1990s banks started using different scoring models. Credit scoring models have automated much of the human involvement in the loan application process. Thus, speeding up the underwriting process. These models are the same ones used for giving credit through small business credit cards. In addition, these models are sensitive to changes in things such as credit scores or changes in credit standards.
How Well Is The Small Business Economy Performing?
Overall, the small business indicators are favorable. The only downside is that the demand for small business loans is declining. Self-employment as a primary occupation has been on an upward trend for the last eight years. However, it is still below the peak achieved in mid-2007. The self-employment rate in mid-2019 is still below the rate achieved in mid-2007. The rate in mid-2007 was 11 percent versus 10 percent as of mid-2019.
The last economic recession happened in 2007-2008. This recession was created by deregulation of the finance industry which permitted banks to become engaged in hedge fund trading with derivatives. This, in turn, caused the banks to demand more mortgages to support the profitable sale of derivatives. Thus, banks created interest-only loans that became affordable to subprime borrowers. A derivative is a financial contract that gets its value from an asset.
Maybe part of the reason for the decline in loan demand is the impact of the 2007-2008 recession. Many small businesses closed their doors during this time period. I believe part of the reason for the businesses closing was that the owners withdrew equity in their business. I have talked to a few companies that said they got used to having equity in their businesses and did not consider the impact of withdrawing the equity would have during an economic downturn. Once the recession hit they did not have the working capital or different product or service streams to support the business. With the withdrawal of the equity, there was nowhere to turn to and they had to close the business.
Multiple Revenue Streams
In addition, to keeping cash available they need to diversify the business into multiple revenue streams. I once talked to a colleague and he stated that all businesses should have seven cash-generating revenue streams. That way if any two revenue streams have impacted the others will keep the business going until the economy turns around.
However, there is a worry as the demand for loans is declining. Is this because small businesses are looking for alternative financing? Why get a loan if you can obtain the funding you need through sites such as Kickstarter or Indiegogo.
Lastly, I believe SBA should study the impact if any on these crowdfunding sources are having on the loan volume. Stay tuned for future economic status updates.
Ultimately, it is up to you to review the information from the SBA and make your own determination. Maybe it is time that SBA performed a study on why the decrease in loan volume. Otherwise, we can speculate but not have the truth. Here is the link to the report.
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