Access to Corporate Credit in Question
As signs of economic recovery increase, a key question is whether businesses have access to enough credit to finance growth. It’s an issue of surprisingly intense debate.
On one side, some analysts contend that banks, skittish after the blow-ups of Enron Corp., Global Crossing Ltd. and other major borrowers, are denying loans to worthy companies, as they did a decade ago in a credit crunch that helped keep U.S. growth stunted in 1991 and ’92.
“Small-business borrowers are paying for the sins” of large, troubled firms, especially those in the telecom sector, said John Rutledge, an economist who heads a Greenwich, Conn., buyout firm.
In a stinging report last week for the National Assn. of Manufacturers, Rutledge described a two-tier economic recovery, with giant firms still able to borrow at decent rates via bond offerings, while many smaller companies, dependent on banks for expansion capital, endure higher interest rates, special fees and outright denial of access to credit.
In a survey last month, 34% of the manufacturing group’s members said credit was tighter than a year ago, and 26% said that was restricting their expansion.
Association President Jerry Jasinowski urged banks to “not strangle the economic recovery in its cradle.”
For the overall economy, however, the picture appears far brighter. Counting three major sources of credit--bank loans, short-term notes known as commercial paper and long-term bonds--U.S. businesses have had substantially more access to credit during this economic downturn than in the last three recessions, the Federal Deposit Insurance Corp. reported last month.
Many smaller businesses, particularly in non-manufacturing sectors, said they have no funding worries. A January survey by the National Federation of Independent Business found plenty of firms talking of expansion, with bank loan rates averaging a low 7.2%.
Credit availability was cited as the “most important” issue by 2% of the federation’s 600,000 members.
“There’s tons of money available,” said William C. Dunkelberg, chief economist for the group, in which manufacturers make up only about 10% of the members. Dunkelberg’s index of small-business optimism rose from 100.4 in December to 103.5 in January--the highest reading since the first quarter of 2000, when economic growth still was strong.
To measure businesses’ access to credit, analysts focus on three major sources of money. Here’s a look at the trends in each credit sector:
* Bank loans. In a report last week, the Federal Deposit Insurance Corp. said banks’ commercial and industrial lending fell nearly 10% last year, a decline greater than in the recession of 1990-91.
Some of that drop unquestionably reflected banks’ reluctance to extend credit to some borrowers, analysts said.
But the slide in commercial and industrial loans outstanding also was tied to many companies’ decisions to cut back on borrowing as they pared expansion plans and liquidated inventories amid the weak economy.
However, in recent weeks the volume of commercial and industrial lending has increased again, Fed data show.
* Commercial paper. Many major companies use the commercial paper market--short-term notes--for routine financing. The volume of commercial paper outstanding from nonfinancial companies has plunged 34%, or about $100 billion, over the last year.
As with bank loans, some of the decline in commercial paper reflected companies’ decisions to shift to longer-term financing as interest rates fell.
Another factor, however, was investors’ worries about rising corporate failures. The high-profile bankruptcies of Pacific Gas & Electric Co. and Enron, companies once regarded as rock-solid, spooked buyers of commercial paper and made them less willing to extend credit to certain companies, because commercial paper is unsecured debt.
In recent weeks, rumors of financial troubles have shut companies including Tyco International and Qwest Communications out of the commercial paper market.
In such an environment, “you can have a perfectly good company that can’t roll over its paper,” said Ray Kennedy, a portfolio manager for Pimco bond funds in Newport Beach.
* Long-term bonds. While banks’ business loans and companies’ issuance of commercial paper fell last year, long-term corporate bond issuance rose.
Likewise, major firms continue to borrow in the bond market this year. Last week, General Motors Corp. sold $3.3 billion of 30-year bonds. Even struggling retailer Gap Inc. was able to sell $1.2 billion in seven-year notes last week.
Many firms have opted to take advantage of lower interest rates to lock in debt costs for the long haul, analysts said. And investors have been willing to buy bonds because bond owners typically have the strongest claims to company assets in the event of financial trouble.
Still, many bond issuers are paying more than usual to borrow. The lowest-rated level of investment-grade corporate bonds historically have paid about 2 percentage points more in yield than 10-year Treasury bonds. But that spread reached 3.5 percentage points after the Sept. 11 attacks, and it’s still about 3 percentage points.
Yields on non-investment-grade bonds--junk debt--also have remained high as junk bond defaults continue to rise.
Despite that, Walter Einhorn, a former chairman of the Commercial Finance Assn. who spent 25 years as a Mellon Bank executive, sees no dearth of credit hobbling businesses.
“There is no credit crunch,” said Einhorn, whose Sunrock Capital Corp. in Philadelphia makes loans to stressed companies that pledge equipment, inventories or unpaid accounts as collateral. “It’s just that [unwise] deals of the kind approved as standard five years ago are no longer being approved” by banks and other lenders.
Economy.com economist Mark Zandi agrees that credit isn’t a problem for many businesses. But he worries that a credit crunch still could develop.
His reasoning is that banks have put themselves in jeopardy by lending so free-handedly to consumers, sharply boosting household debt loads.
Though consumer spending has been a bright spot in the weak economy, consumer bankruptcies rose 20% last year to a record 1.4million filings.
As bankers are forced to write off more bad consumer loans, the lenders will come under more pressure by regulators and shareholders to beef up reserves and make fewer loans to protect their own strength, Zandi said.
For now, though, the recent rebound in banks’ commercial and industrial lending has encouraged analysts.
One contributing factor in the rise appears to be that some businesses shut out of the commercial paper market are turning back to less-desirable bank loans, economists for several banks said. However, they said other factors play a greater role in the upturn in loans.
Businesses typically use bank credit lines to finance increases in inventory this time of year, preparing for higher sales at Easter, said David Littmann, economist for Comerica Bank in Detroit.
But Littmann thinks the latest increase is more than just seasonal: His survey of the south Michigan auto industry showed “a huge shoot-up” in inventory rebuilding from January to February, he said.
Banc of America Capital Markets economist Lynn Reaser, describing “a swing from massive [business] inventory liquidation to ... perhaps a moderate rebuilding,” said the bottoming-out of commercial loans “is a positive sign the recession is coming to a close.”
In his typically cautious way, Federal Reserve Chairman Alan Greenspan suggested much the same thing Wednesday during congressional testimony in which he acknowledged that more bankers have made it tougher for businesses to borrow money.
Greenspan said tighter credit is normal during tough times like those the nation has been through. “Hopefully,” he added, “if the economy continues to show the signs that it has been exhibiting of late, some of that pressure will be removed.”
