In today’s hostile economic environment, access to capital is the main differentiating factor between companies that have been able to expand and gain market share versus those that have experienced huge drops in revenue. The reason why many small businesses have seen their sales and cash flow fall dramatically, many to the point of closing their doors, while many large U.S. corporations have managed to increase sales, open new retail operations and increase earnings per share, is that a small business almost always relies exclusively on financing from traditional commercial banks, such as SBA loans and unsecured lines of credit, while large publicly traded corporations have access to public markets, such as the stock or bond markets, to access capital.
Prior to the onset of the 2008 financial crisis and the subsequent Great Recession, many of the largest commercial banks in the United States were engaged in easy money policy and open lending to small businesses, whose owners had good credit ratings and some industry experience. Many of these commercial loans consisted of unsecured commercial lines of credit and unsecured installment loans. These loans were almost always backed exclusively by a personal guarantee from the business owner. This is why good personal credit was all that was required to virtually guarantee the approval of a commercial loan.
During this period, thousands of small business owners used these loans and lines of credit to access the capital they needed to finance working capital needs that included payroll expenses, equipment purchases, maintenance, repairs, marketing, tax obligations, and expansion opportunities. Easy access to these capital resources allowed many small businesses to thrive and manage cash flow needs as they arose. However, many business owners became over-optimistic and many made aggressive growth forecasts and took increasingly risky bets.
As a result, many ambitious business owners began expanding their business operations and borrowed heavily from small business loans and lines of credit in anticipation of being able to repay these heavy debt burdens through future growth and increased profits. As long as banks maintained this “easy money” policy, the value of assets would continue to increase, consumers would continue to spend, and business owners would continue to expand through the use of greater leverage. But eventually, this party would come to an abrupt end.
When the 2008 financial crisis began with the sudden collapse of Lehman Brothers, one of Wall Street’s oldest and most recognized banking institutions, financial panic and contagion spread to the credit markets. The resulting freezing of credit markets caused the wheels of the American financial system to come to a complete halt. Banks stopped lending overnight and the sudden lack of easy money that had caused the value of assets, especially house prices, to rise in recent years now causes the value of those same assets to plummet. As the value of the assets imploded, commercial banks’ balance sheets deteriorated and stock prices plummeted. The days of easy money were over. The party was officially over.
After the financial crisis, the Great Recession that followed created a vacuum in the capital markets. The same commercial banks that had lent money freely and easily to small businesses and small business owners now suffered from a lack of capital in their balance sheets, threatening their very existence. Almost overnight, many commercial banks closed access to commercial credit lines and cancelled outstanding balances on commercial loans. Small businesses, which depended on the working capital of these lines of credit, could no longer meet their cash flow needs and debt obligations. Unable to cope with a sudden and dramatic drop in sales and revenues, many small businesses failed.
Since many of these same small businesses were responsible for creating millions of jobs, each time one of them failed, the unemployment rate increased. As the financial crisis deepened, the banks were responsible for creating millions of jobs every time one of them failed, the unemployment rate increased.