Starting up is getting harder to do
A trio of new reports provides more evidence that small businesses, considered by many to be an engine of economic growth, could have a tough time pulling the country back to prosperity.
For the first time in eight years, monthly employment at small businesses has declined, dropping by 25,000 jobs in October, according to the latest ADP Small Business Report.
Lending standards for small businesses have been tightened at 75% of the 55 domestic banks polled for an October survey by the Federal Reserve Board. That’s up from 65% in July and 50% in April.
At the same time, an Oct. 30 report by the Kauffman Foundation showed that, contrary to conventional wisdom, start-ups rely primarily on bank credit for capital in their first year rather than on networks of family and friends.
Although brand-new firms aren’t job machines -- 60% of the start-ups in the Kauffman study had no employees in their first year -- small businesses do account for most of the net new jobs in the United States and much of the innovation, according to federal statistics.
Tighter credit isn’t going to make it any easier to increase the ranks of small firms, a growing challenge given the large numbers of new entrepreneurs expected to pop up as major corporations shed thousands of jobs.
“Newbies are going to have a hard time. It doesn’t bode well for the economic recovery,” said William H. Crookston, a USC professor of clinical entrepreneurship and a former entrepreneur.
His business students, whose job hopes have been dimmed by the meltdown at major financial institutions, are increasingly joining the ranks of entrepreneurs by creating what he calls “vest pocket” businesses.
These ventures, with modest revenue goals of less than $50,000, are meant to help the student entrepreneurs weather the economic storm and potentially grow later, he said.
The souring economy is not helping the prospects of these or any other would-be business owners.
“How fast this thing is over is really the question,” Crookston said.
Among the observers who expect at least another eight months of falling employment is Joel Prakken, chairman of Macroeconomic Advisers.
The St. Louis firm creates the small-business employment report, as well as a version that looks at firms of all sizes, with the outsourcing and technology firm Automatic Data Processing Inc.
“We may just be getting into some pretty sour numbers here, even for small businesses,” he said.
The ADP report showed that from mid-September to mid-October, employment at firms with fewer than 50 workers fell to 51.3 million, down 25,000 jobs.
The goods-producing small-business sector saw employment drop to 7.9 million, down 36,000 jobs. Service-providing small businesses saw an increase of 11,000 jobs for a total of 43.5 million in October.
Medium and large businesses continued to post employment declines, which in October outpaced those of small businesses.
A drop in employment levels across all sizes and categories of firms signals a “fairly sharp” economic downturn, he said.
Calls to help shore up small businesses for the tough times ahead are coming from some legislators and small-business leaders as policymakers and others debate how best to repair the financial system and control the ripple effect the meltdown and the credit crunch are having throughout the economy.
Crookston isn’t confident those calls will be heard. Traditionally, small-business concerns have not been given the attention they deserve, he said.
“We’ve been treated like a stepchild,” said Crookston, who also is the principal of consultancy WHC Associates in Santa Monica.
Sen. John F. Kerry (D-Mass.), chairman of the Senate Committee on Small Business and Entrepreneurship, last week pushed again to help small businesses by asking the Small Business Administration to make bridge loans through the agency’s disaster loan program, a step he said it took after 9/11.
He also asked the SBA to allow borrowers who have the agency’s 504 loans to refinance so they could free some of the equity in their businesses.
In September, Kerry introduced legislation that would temporarily drop fees on small-business loans partially guaranteed by the SBA.
“When the economy is in a downturn, the administration needs to immediately step in by reducing or eliminating the fees and changing outdated procedures that are paralyzing these programs,” he said in a statement.
Eliminating SBA loan fees for small firms was also suggested by a group of small-business leaders in preliminary draft policy recommendations they hope California will adopt to help small firms.
The number of SBA loans made in the Los Angeles area is down about 30% for the fiscal year ended Sept. 30 compared with the year-earlier period, mirroring a similar decline nationwide. Although it’s not clear from the Kauffman study what role SBA loans play in supplying start-up capital, it did show that bank credit is a key source.
The report on capital choices was pulled from the results so far in a four-year Kauffman study that will survey the same 4,000 to 5,000 firms each year to follow job growth, capital use and survival rates, among other topics.
Last month’s capital report provides a first-time glimpse at the choices made by “truly nascent firms,” according to its two authors.
“It was a big surprise to see just how extensively start-ups rely on bank financing,” said David Robinson, the study’s co-author and a finance professor at Duke University’s Fuqua School of Business.
“What we are seeing is that being able to access formal credit markets is an incredibly important part of the start-up decision,” he said.
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