Winter 2009

Conquering the Credit Crunch By Mollie Neal

Rick Claesson, owner of Madly Pop’n, has been a successful gourmet food gift retailer for 24 years in Oak Park, IL. Unfortunately, a slowing economy over the last year and customers who are more careful with their spending are like a darkening storm cloud hovering over his business.

Claesson has a $30,000 line of credit with a national bank—a rainy day fund, which he typically taps into at the beginning of the fourth quarter to pay for increased holiday staff, and to buy and make the products that he sells. This year, he had to dip into the pot during the third quarter. He has entirely depleted the money—and hasn’t paid himself in months. His bank, Washington Mutual, was seized by the government and sold to JPMorgan Chase. Claesson doesn’t believe he’ll be able to get his credit line increased or even renewed.

Many small-business owners like Claesson rely on outside sources of credit to help fund their businesses, whether it be to compensate for seasonal sales fluctuations, invest in capital improvements or to simply use as a temporary fix during tough times. Small-business credit has always been a challenge. Unfortunately, given the current economic conditions, banks and other lenders are drawing their purse strings even tighter.

A report released by the National Small Business Association this year, finds that 67 percent of small-business owners interviewed say they have been affected by the credit crunch, and one-third reported deterioration in the terms of available bank loans. Business owners were interviewed late August through early September.

Business owners who rely on credit cards are not faring any better. A Federal Reserve Bank Senior Loan Officer Opinion Survey found that 65 percent of banks have more stringent standards for approving credit card applications, 47 percent have tightened terms and conditions on new or existing cardholders, and nearly 40 percent have increased credit card rates.

There are, however, steps that gift shop retailers like you can take to preserve your money and access alternate sources of credit.

Safeguard your cash

Experts agree, the first thing small-business owners should do is make sure the money they have deposited is safe, especially in light of the dozens of bank failures reported by the media the past few months.

The Federal Deposit Insurance Corporation (FDIC) is a government corporation that insures all deposits at insured banks, including money in checking and savings accounts, money market deposit accounts, and certificates of deposit (CDs). The recent Federal “bailout” bill temporarily increased coverage from $100,000 to $250,000 per depositor through December 31, 2009. That means if the bank failed, deposits under the limit will be covered by insurance. If there’s more than the insurable limit in any one account, it’s a good idea to spread your funds among various lenders, says Matthew McGrath, chief planning officer with Evensky & Katz Wealth Consultants, a Coral Gables, FL -based financial advisory firm.

More important, if funds are deposited in a financial institution that is not FDIC-insured and it falters, you could lose all of your money. The best way to determine whether the FDIC covers a financial institution is to visit a special website for consumers: MyFDICinsurance.gov.

Read the fine print

If you have a bank credit line, home equity loan, or other source of capital that’s used to help finance your business, review these documents and read the fine print to fully understand their rights and terms, advises McGrath.

It’s also wise to visit your local banker or call the customer service department and ask questions about the status of the agreement and if the lender may be reviewing and/or adjusting the terms, especially if you are close to a renewal date, says McGrath. A local banker may have some insight into upcoming institutional changes or types of businesses they may be scrutinizing.

Unfortunately, unless you have a crystal ball, you may well still be hit with an unwelcome surprise since most banks have the ability to increase rates or reduce credit lines without any warning.

Be credit-conscious

If credit sources are drying up, or you need to start the search for new capital you need to take a few steps before you reach out to lenders and investors.

It’s important to establish good credit, separate personal and business credit, and boost your scores as high as possible, says, David Gass, author of Business Credit for Business Owners, and CEO of Business Credit Services Inc., a Las Vegas-based counseling service. Credit scores are determined by credit rating agencies such as Dun & Bradstreet, Experian and Equifax, and are used by financial organizations and accounting departments to decide if you are worthy of funds, and to determine the interest rates and terms of the loan, credit line or service. These lenders can run the gamut from banks and auto companies, health and property insurance companies, to gas, electricity and cell phone providers.

The key steps include paying all of your bills on time and making sure you don’t max out any current credit sources. This sends a red flag, and signifies that you may be a high risk, says Mitch Jacobs, a small-business credit expert and founder and chief executive officer of New York City-based loan provider, On Deck Capital. In turn, lenders can easily pull back credit lines or boost interest rates overnight, and getting [new] credit will be difficult. “In this economic environment it’s easy to become the victim of the instant shrinking credit line.”

Make it an annual habit to check your credit score so you can spot potential errors or any other discrepancies. “Every small business owner should be signed up for some type of credit monitoring so they know exactly what their score is at any given time,” says Gass. Sign up for the service at annualcreditreport.com. While you are at it, you may want to order reports on competitors, suppliers and vendors to gain some fiscal insight on their economic stability. Some bosses also check credit scores for potential employees, especially those who may be involved with handling money or accounting. These reports are more limited in scope, but still provide insight.

Think lean; think creative

While credit card companies or banks aren’t easy to negotiate with these days, there are others you do business with, who may be more receptive. Suppliers and vendors may have strict payment policies but they too may be feeling a financial pinch. If you are paying on a 30-day net, why not ask them if they’ll extend their terms to 60 or 90 days.

To gain credibility it’s important to be professional, says Jacobs. He suggests discussing your past sales history and what you expect to make this quarter taking into account some potential reductions due to the economy. “This way your supplier or vendor sees credibility in the way you think about managing your business.” The supplier or sales representative will then take that information back to their credit department and vouch for your business savvy. A smart vendor wouldn’t miss the opportunity to take an order from an educated and competent retailer.

It’s also prudent to look in-house for ways to ease financial pressures. It’s always wise to seek ways to trim operating expenses even when the economy is strong.

“Think creatively to avoid non-essential expenses, to develop marketing strategies to get people in the door and consider how you manage your staff to maximize your investment in inventory,” says Jacobs.

For example, for many small retailers, business equipment can quickly eat up an operating budget. If you are in the market for costly equipment such as computers, you may want to consider leasing instead of shelling out large sums of cash. Some manufacturers offer lease programs to businesses that are deemed credit-worthy. There’s also a new crop of companies that will offer leases on numerous products even if the manufacturing company doesn’t offer financing. “This particularly applies to smaller businesses that may not qualify for the minimum threshold purchase required from a leasing manufacturer,” says Jacobs.

“One of the best ways to be in the strongest position to raise capital is to run your business in an extremely lean way that is focused on high-margin sales,” says Jacobs. “That way you look as profitable on paper as possible and require as little cash as possible.”

Seek alternate sources of capital

Fortunately, those with good personal and business credit have other options beside national financial institutions. Many credit unions, and local and regional banks are actually promoting loan services. Sterling National Bank in New York, for example, has been running newspaper ads, asking “What credit crunch?” in an attempt to gain market share from other banks pulling back on small business lending.

Mircolenders often extend loans to entrepreneurs who can’t secure funding elsewhere. Many of these lenders are non-profits that rely on charitable organizations and individuals to provide business loans and training. These lenders often focus on a particular interest such as female or minority entrepreneurs. (To find a microlender, contact your local Small Business Administration district office or visit the agency’s website.)

Merchant cash advances are another option for businesses that generate at least $10,000 per month, says Gass. These may be considered somewhat of a “lender of last resort” for small retailers. In essence they give cash in return for a percentage of future credit card sales. Be forewarned, however, interest rates can be extremely high.

As a number of credit markets have seized up, an increasing array of private, non-bank lenders are quickly gaining popularity.

Peer-to-peer or person-to-person (P2P) lending networks in which people lend others money directly online, without the involvement of a financial institution appear to be taking off. Lenders on the sites usually decide whether to lend money to a particular borrower — and at what rate — based on the borrower’s credit score and existing debt. Websites like Prosper and Zopa report typical loan amounts range from $8,000 to $20,000.

Those business owners who want to borrow money from friends and family but are concerned about the possible personal strains, may find these services particularly attractive. Websites like Virgin Money take the old process of raising money from family and friends and make it more of a professional transaction, says Jacobs. Tools allow a business owner to approach a friend or family member and establish professional loan documents, a collection system in which lenders receive monthly payments along with a statement indicating the principal and interest paid.

“[P2P lending] is a way to raise money for some additional purchases that a lot of people aren’t aware of,” says Jacobs. Some people may well find an established gift shop a more attractive investment than the stocks or bonds they have traditionally invested in, says Jacobs.

The bottom line? Don’t fret. Think long term. Even if economic uncertainty is a primary concern among today’s small-business owners, according to The National Small Business Association survey, many business owners reported feeling confident about the future of their business.

In its 2008 Small-Business Mid-Year Economic Report, The National Small Business Association released data after conducting a poll among many small business owners. Here are some additional numbers from the report that might interest you as a gift store retailer:

What are the three most significant challenges to the future growth and survival of your business?
Economic Uncertainty: 53%
Cost of Health Insurance Benefits: 46%
Federal Taxes: 34%

How much did net profits change over the last 12 months?
Increase: 40%
Decrease: 38%
No change: 22%

How much do you expect net profits to change over the next 12 months?
Increase: 43%
Decrease: 33%
No change: 24%

How much did the number of employees change over the last 12 months?
Increase: 27%
Decrease: 25%
Stayed same: 48%

How much do you expect the number of employees to change over the next 12 months?
Increase: 30%
Decrease: 15%
Stay same: 55%

Editor’s note: This report was based on surveys conducted in August and September last year.

Mollie Neal

Neal writes about market trends, demographics and advertising issues for a variety of business and consumer publications. She can be reached at mneal@optonline.net.