Advance to Go

By Evan Sparks 
Listen to part 1 and part 2 of a special ABA Banking Journal Podcast series exploring the themes of this article.
The post-COVID economy is snapping back in a big way.
According to the June 2021 consensus forecast of ABA’s Economic Advisory Committee, the U.S. economy will grow at an inflation-adjusted 7.2 percent over 2021, then ease to a still-above-trend 3.1 percent in 2022. The forward-looking ABA Business Credit Index climbed nearly 31 points in the second quarter and another four points in the third quarter to reach the strongest reading since 2014.
Risks have shifted to the upside. Instead of being worried about meeting payroll, employers are worried about finding enough employees to pay.
But one persistent question remained in the first half of the year: what about America’s small businesses? The ones that are the backbone of employment and economic growth—and that had thinner margins for withstanding the disruptions of 2020?
There were a lot of reasons to be worried.
For one thing, small businesses often run on thinner cash cushions. Pre-COVID, just 14 percent of small businesses with employees said they would use cash reserves to cover a two-month revenue loss, according to the Federal Reserve. Far more small firms said they would tap the owners’ personal funds, take out debt, lay off employees or downsize operations.
And profitability was under pressure, too. While 57 percent of small business employer firms made money (and another 18 percent broke even), these firms were likelier to see their profit margins shrink pre-COVID.
But based on reports from bankers across the country—and the broader economic data—the public bridge through the crisis largely worked. According to an April survey from the National Federation of Independent Business, nearly three-quarters of small businesses received a Paycheck Protection Program loan.
Business owners held on, and with demand now picking up, they’re optimistic and prepared to capitalize on the recovery. The NFIB small business optimism index reached 99.8 in April, up 1.6 points from the prior month. On net, more than a quarter of small business owners plan to make capital outlays, and 21 percent plan to increase employment. “We have seen a much stronger snapback in business investment than we’ve seen in previous recovery cycles,” says Beata Caranci, chief economist at the TD Bank Group and chair of ABA’s Economic Advisory Committee. “It’s really challenging our assumptions!”
But the past year has seen uneven economic effects across demographic categories, with 41 percent of Black business owners and 32 percent of Latino entrepreneurs having shut their doors by April of 2020 at the height of stay-at-home orders, compared to 17 percent of white business owners, according to Robert Fairlie of the University of California, Santa Cruz. Minority-owned firms were also more likely to see revenue losses and layoffs than white-owned companies, according to a Fed survey.
So what can bankers do to ensure all small business owners can benefit from the bounceback? And how can banks best support entrepreneurs who are ready to get back into the game?

Averting disaster

In the spring of 2020, many observers were predicting catastrophe for small businesses. The New York Times editorial board warned in March about “complete economic destruction,” and its reporters raised the specter of “catastrophic” results for small businesses.
In the Wall Street Journal, columnist Greg Ip described the pandemic as an economic “body blow with no modern precedent.” “For some small business owners and managers, the recent economic shut down is close to a business apocalypse they ever want to get,” read an article in the Des Moines Register.
Speaking of Iowa, a wave of small business closures would have been especially damaging in small and rural communities. “If a Main Street business closes here in Des Moines, there’s a pretty good likelihood somebody’s going to come back and fill it in because there’s enough economic activity in that population,” says Iowa Superintendent of Banking Jeff Plagge, a longtime community bank CEO and former ABA chair.
“My bigger concern in this discussion is some of our more rural markets, where Main Streets already struggling. It’s harder in a lot of these rural markets to say what’s going to take that space,” Plagge adds. “If it was a restaurant before, will it be a restaurant? If there’s a retail store, will it be a retail store later? The banking industry as a whole has really worked hard to try to keep those Main Street businesses alive.”
The $800 billion Paycheck Protection Program proved the star of the relief show. While estimates of the exact number of jobs saved remain elusive, the program stemmed anxiety and helped most businesses keep the lights on and payroll going out. A recent Morning Consult survey found that among small business employees whose company received a PPP loan, 92 percent said it made a difference in preserving jobs.
And it wasn’t only the monetary relief that made a difference. Other than a few restaurants that lacked the capital and liquidity, pretty much all of Bank of Ann Arbor’s clients have stayed in business, says President and CEO Tim Marshall. “Most of the impacted clients in our portfolio . . . have hung on because of the government support,” along with bank-provided deferrals and loan modifications. “The government did so much right in terms of giving the banks the ability to support our client needs,” he adds.
While many businesses sought deferrals proactively when the effects of COVID-19 were uncertain, second deferrals declined dramatically—the first signal to Marshall that things might not be as bad as he initially thought. Patrick Smith, head of small business banking at Santander Bank, agrees. “A lot of the requests for deferrals haven’t translated into [troubled debt restructurings],” he says. “They perform really well in terms of our credit quality.”
Finally, the U.S. rollout of highly effective vaccines in early 2021 “put a bookend on the distress of the pandemic,” says Don McCree, vice chairman and head of commercial banking at Citizens. Business owners saw the recovery coming sooner and more clearly than ever. “If this was going to have lasted four or five years, or even two or three years, you could have seen more of these companies go out of business.”

How many businesses actually closed?

The spikiness of COVID’s effects on small businesses meant that while some—like restaurants and in-person retail—struggled, others actually built their cash position, between pandemic relief and reduced spending on supplies, travel or other expenses. Joe Conover, president of Northwest Bank in Arnolds Park, Iowa, notes that the average commercial client had 30 percent more cash in its deposit accounts around the beginning of 2021. “I had to double check it like three times!”

With so much stimulus, businesses simply weren’t going out of business in massive numbers. Using alternative data—such as business utility accounts, commercial real estate vacancies, “going out of business” Google searches and delinquency rates—in an April 2021 paper, researchers at the Federal Reserve Board estimated that 2020 saw 130,000 firms exit the marketplace in excess of the normal baseline of 400,000, or 7.5% of all firms in any given year—suggesting that COVID-19 may only have raised business closure rates by roughly 2.5 percentage points.
Bankers saw this play out in their home markets. “One of the things I watch really carefully is to bankruptcy statistics,” says Plagge. “And bankruptcy statistics [in Iowa]were unbelievably low last year from a historical standpoint.” But bankruptcies are just one way a business owner exits—and they don’t tell the full story of closures. Jill Castilla, president and CEO of Citizens Bank of Edmond in the Oklahoma City area, offers the example of a small, multi-generational family restaurant without debt and whose owners may be “less savvy from a credit standpoint. . . . I’ve become more aware of business closures on the deposit side than I have on loans going bad. In my experience, it’s mainly been those small businesses that have limited bank credit relationships or knowledge of aid programs.”
To the extent businesses are closing, it may also be due to owners’ desire to retire or access personal liquidity. “It’s different if you hit bankruptcy and that’s why you have to close versus making a completely rational decision that early retirement’s looking pretty good here,” says Beata Caranci. “And we actually see that in the labor market statistics.”
This trend is borne out in M&A data. “We’re seeing a surge in M&A as a lot of small companies are actually selling themselves to larger, more vibrant companies,” says McCree. Beyond retirements, a set of post-pandemic factors play a role, including a backlog of deals that might have been made in 2020 but for the economic uncertainty. “There’s an enormous amount of equity capital looking to acquire,” McCree explains. “You’ve got extremely liquid capital markets, so there’s lots of financing available at quite low interest rates. And there are willing sellers of companies—some of it’s because, ‘Hey, I’m tired, I want to get out of the business.” Other drivers are that ‘It’s a very tough economy to operate in because everything’s going digital and I don’t have the technology investment, so I need to be part of a more sophisticated platform.’”

On the rebound

While some business owners have decided to sell, others worked hard to pivot. “What I was seeing is some creativity from those business owners about how they connect with their customers and show their value and they’re still able to charge for it,” says Conover. “We’ve seen some people pull up and just say, ‘Not interested in fighting the fight anymore,’ [but the]vast majority in my experience saw an opportunity for creativity to rethink their business model and their value that they convey to their customers.”
It’s not just contactless food delivery or curbside notarization—six in 10 small businesses reported figuring out new ways to get by, according to a Santander Bank survey from earlier this year. One of Detra Miller’s clients at M&T Bank had moved her retail space from a suddenly unusable airport location to her home temporarily, then called Miller at the beginning of 2021 for help with a build-out in a new retail space as things got busier. “Now she’s really looking forward to getting this new space and seeing her business take off again,” says Miller, who is an AVP leading M&T’s minority and women-owned business team in the Baltimore area. “It was on a really good trajectory, and the pandemic caused a pause, but now she’s really excited for what the future looks like for her.”
Beyond those looking to pivot, many are looking to start new enterprises. “We’re actually seeing quite a bit of new business formation that came out this business cycle that again is atypical,” explains Caranci. “We’ve actually seen this entrepreneurial spirit on steroids come through in this cycle.” Lenders agree. Miller sees her clients looking to buy or build out properties, support customer growth, expand payroll and acquire software—and they’re coming to the bank for this support.
Challenges for business owners include the massive economic stimulus—in particular, new rounds of economic impact payments and enhanced unemployment benefits. While there’s a lot of debate among economists about the role of fiscal stimulus in keeping people out of the labor force, business owners are feeling it.
“And then there are still residual supply chain problems in certain industries, so people are having some challenges sourcing product—or they’re receiving stale product that should have been there six months ago,” says McCree. “There’s still a working capital adjustment and an inventory adjustment that need to happen to take full advantage of what we expect to be quite a vibrant economy.”

Leaving no business owner behind

Bankers have been especially sensitive to concerns that some minority-owned and women-owned businesses may have missed out on early rounds of PPP relief. “We created a special program of outreach to small business owners of color and women-owned small businesses [through]150 community partners who have ongoing relationships with these folks,” says Santander’s Patrick Smith. The bank reached out to these entrepreneurs and invited them to apply for PPP loans, “whether or not they were clients. . . . We wanted to make a special effort to make sure that we were supporting women- and minority-owned businesses in this time of really great need.”
In northeastern Oklahoma City—a majority-minority community with historical underinvestment—Jill Castilla is frustrated on behalf of a group of Black-owned small businesses that opened at the beginning of 2020 with “so much momentum behind them.” The pandemic stopped them in their tracks.
“We’ve tried to be very proactive and making ourselves physically accessible by being in the community and utilize the influencers in the community, to ensure there’s at least an understanding of access to credit,” Castilla says.
One obstacle: many of these minority entrepreneurs were Schedule C filers—sole practitioners and self-employed individuals—who faced eligibility challenges early on during the PPP. (The Small Business Administration notes that roughly seven in 10 minority-owned and women-owned businesses are sole practitioners.)
In Oklahoma City, Castilla works with local rapper Jabee to ensure the bank is authentically and sensitively reaching out to the Black community. This kind of engagement and investment is “not a highly efficient endeavor,” she adds. “It takes time and understanding, history and building trust and collaborating with a business owner to see what potential options are there.”
Despite the disparities in revenue, credit outcomes and employment, Black business owners remain resilient. Smith notes that business closures among minority-owned firms in Santander’s portfolio were “not discernably” different than those for other businesses. In fact, according to more recent research by UC Santa Cruz’s Fairlie, by September 2020, the number of Black small business owners had actually risen 2 percent compared to February—wiping out the temporary closures of the spring. And according to the Fed, a net 10 percent of Black owners of employer firms expect revenue to grow over the next 12 months, compared to a net 3 percent for white business owners and negative net 40 percent for Asian-American businesses.

Jump-starting the next wave of entrepreneurs

The first step is for bankers to make sure they are connected socially and professionally with entrepreneurs—even if their startups aren’t ready for bank loans. “As bankers, we see a lot of businesses—we see a lot of good things that are done, we see a lot of bad things are done—and sometimes it’s just providing that connection that gives a lot of value to an entrepreneur who is just getting going,” says Andy Schornack, president and CEO of Flagship Bank in the Minneapolis area. Flagship pairs that with in-person and (during the pandemic) Zoom-based educational sessions for entrepreneurs.

Another opportunity, even if your bank doesn’t directly bank startups, is to join networks and associations that help startups get traction. For example, Bank of Ann Arbor is involved with Ann Arbor Spark, and the bank has a tech industry group to work with enterprises that come out of tech transfer at the local University of Michigan and Ann Arbor Spark, Tim Marshall says.
One unique feature at Citizens Bank of Edmond is its coworking space Vault 405, with 100 member businesses. “We’ve been amping up our virtual programming and on-site sessions to be a resource for the entrepreneurship community and also match up VCs or private equity firms that are wanting to make investments,” says Castilla.
A growing trend Schornack sees is side hustles being converted into full-time business plans—particularly in e-commerce. “I think we’re seeing more of that out of the pandemic,” he explains. “And it’s just a matter of taking it to that next step and being a resource for them as they’re thinking about that.”
Edmond’s Citizens launched a new Shopkeeper Experience to help these retail startups. The incubator helps local e-commerce businesses test out a storefront experience for a three-month period. The small business pays $50 per month for the space to test out their comfort with an in-person retail concept and the operational challenges they’d have to manage if they made that pivot. Thus far, Citizens has had 40 applications for each of its two Shopkeeper Experience cohorts. The bank is also welcoming three dozen small business pop-up shops and three dozen food trucks to its popular Heard on Hurd summer music events, returning after a COVID-related pause in 2020. “We’re trying to do everything we can to facilitate entrepreneurship, growth and maturity through Vault 405 and then also allowing that little case study experimentation for those very early-stage entrepreneurs,” says Castilla.

A new generation of SBA lenders

To support these kind of startups, bankers can also be familiar with resources like small business development centers and SBA loan programs. It helps that virtually every bank in the country is now an SBA lender because of PPP. Bankers almost uniformly report that they will be doing more with SBA.
There were just 2,000 active SBA lenders pre-COVID, but thousands more became SBA lenders to support their clients with PPP, says Bill Briggs. As acting associate administrator in the SBA Office of Capital Access throughout 2020, Briggs led the implementation of PPP at the agency. “One of the things that will come out of this is a renewed interest in SBA lending,” he said in a recent IntraFi Network podcast interview. He cites the “value proposition that it can be part of risk management” and access to the secondary SBA loan market to generate more fee income and potentially capital.
Moreover, the experience of running PPP modernized SBA, Plagge says. “It gives us an opportunity to look at these things differently, too, and how they deliver services and how banks can partner with SBA in the sectors of the economy. I think in the long run it’s going to be a positive for banks that’ll have a connection to SBA.”
M&T Bank is one that was able to expand its use the SBA guarantee to support borrowers. Miller notes that, as one of the nation’s top-ranking SBA lenders, M&T relied on “the SBA guarantee to feel comfortable with continuing to lend . . . so that’s what we’re seeing right now in our pipeline for my team—we’re seeing a lot of SBA-guaranteed loans.”

Rallying for small business

Another thing banks can and are doing to support startups is spotlighting entrepreneurs. Citizens Bank of Edmond has successfully done this through social media “cash mobs.” Flagship Bank conducts “Feature Fridays” and “Takeout Tuesdays,” says Schornack, where a bank marketing team member will visit a local business or spotlight a neighborhood takeout restaurant and promote it on social media.
Finally, banks can demonstrate their value to small business clients in a wide variety of financial areas—including managing risks to businesses associated with inflation. “There was a very strong consensus in the committee that there will be a sustained upward shift in the inflation forecast,” says Beata Caranci. Even if inflation is “transitory,” as the Biden administration and many economists expect, it can still be disruptive to business operations and planning, and banks can bring their balance sheet management expertise to bear for their small business clients.
Santander has a special program to focus this kind of coaching and technical assistance on early-stage entrepreneurs in low-income neighborhoods. Ninety percent of the most recent class to complete the program were minority, women or immigrant business owners, Patrick Smith says. Santander has also been investing in its digital tools for small businesses as the firms themselves become more digitally focused. “A lot of them have been accelerating to P2P, so we raised our limits on Zelle and we’ve added mobile check deposit improvements, payment experience improvements, core experience improvements to make it easier for our clients to access to tools that they need to manage their businesses better.”
But whatever tactics banks employ to cultivate startups and support existing small businesses, there’s fresh opportunity in the sector. “The thing that actually gives us hope is that we’ve seen how resilient they are, and we’ve heard from them how resilient they feel,” says Smith. “They’re the backbone of the economy for a reason. We were refreshingly surprised at how adaptable they’ve been.”

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