Earlier this year, Jeff Ippoliti, a lawyer and career entrepreneur in Celebration, Florida, made a deal to buy the Chatham Inn at 359 Main, a 185-year-old hotel in the upscale Cape Cod town of Chatham, Massachusetts. To finance the purchase of the 18-room hotel, which had just undergone a $1 million remodeling, Ippoliti contacted a Florida-based lending service provider. In turn, the provider helped him apply for a Small Business Administration 7(a) loan from Celtic Bank, in Salt Lake City.
Time was money, recalls Ippoliti. “We’re a boutique hotel near the beach, and it was the middle of the summer,” he says. “Every day counted.” His first conversation with the bank was on June 26. Several more followed, all conducted via email and telephone, to review Ippoliti’s business plan and financial history. “It was incredibly efficient,” he says.
On July 29, the loan closed, and Ippoliti soon found himself the proud owner of the inn. The 25-year 7(a) loan he secured is “much better suited to this type of acquisition than a conventional bank loan,” he says. Not only does the lengthy term make payments easier when a new business owner is starting out, but also the SBA allows prepayment without penalty after two years, enabling the loan to be paid off more quickly as the business develops, Ippoliti points out.
Ippoliti’s loan was one of more than 54,000 7(a) loans approved by the SBA in its current fiscal year through August 8, up nearly 27% from the same period a year ago. Demand for the general business loans, the agency’s most popular, has been so great that the program reached its 2015 ceiling of $18.75 billion in late July, two months before the end of the fiscal year. Since few legislators want to be seen as anti–small business, Congress quickly passed a bill raising the ceiling to $23.5 billion.
With $20.5 billion in SBA 7(a) loans issued through August 8, both the number and total dollar amount of 7(a) loans approved this year have already surpassed the record full-year totals set in 2011. (Volume for 504 fixed-asset loans, the agency’s second-most popular program, is up from last year but trails the pace seen in 2011–2013.)
“Our loan demand is robust,” says Reese Howell, CEO and chairman of Celtic Bank, a smallish bank by asset size (about $400 million) but the nation’s sixth-largest SBA lender by dollar volume. Howell says the bank will probably issue between 1,100 and 1,200 SBA loans this year, adding that the bank’s portfolio is somewhat barbell-shaped, with most loans ranging either from $100,000 to $200,000 or from $2 million to $5 million. He notes that the SBA loan marketplace is becoming increasingly more competitive: “We’re seeing more institutions getting involved.”
Likewise, David Jackson, national SBA director at Fifth Third Bank, reports that “we are seeing increased demand for SBA lending, which mirrors what the overall industry is seeing.” With $140 billion in assets, Fifth Third operates in 12 states ranging from Michigan and Illinois in the north to Georgia and Florida in the south. The bank’s SBA loans may range in size from, say, $75,000 for a small, privately owned business to the maximum of $5 million for a much larger company, says Jackson.
Dynamics of Demand
It’s not surprising that small businesses are lining up for SBA-guaranteed credit. For one thing, companies that qualify for a 7(a) loan can put down as little as 10% to borrow up to $5 million over 10 years, or 25 years for real estate. Borrowers can use the funds to meet working capital needs, buy real estate, expand a current business or purchase a new one, buy equipment, refinance debt, and more.
Moreover, the SBA caps the rates lenders can charge for 7(a) loans, to a base rate plus a maximum spread (2.25% for loans with maturities of less than seven years, 2.75% for loans of seven years or more).
The improving economy has surely stimulated demand for SBA loans, as have various rule changes in recent years. In particular, the Small Business Jobs Act of 2010 increased 7(a) loan limits from $2 million to $5 million, and expanded the number of small businesses eligible for SBA loans by increasing its alternative size standard to include companies with no more than $15 million in tangible net worth and $5 million in average net income.
What’s more, lenders offering SBA-guaranteed loans can be more forgiving of a small business’s creditworthiness, which may have been scarred by the recession. A 7(a) loan may be granted “even if the borrower doesn’t have the collateral to fully support the loan amount,” says Jackson.
The Whole Story
Howell says Celtic pays close attention to the stories applicants tell about their businesses, saying that the financials “don’t always tell the whole story, good or bad.” Above all, he says, a borrower should be well positioned for growth, with a strong management team and a simple, well-defined strategic plan.
A history of growth and good management are key, “particularly given the recent downturn,” says John Guy, SVP and director of business banking at Webster Bank, a $22.5 billion (in assets) regional bank based in Waterbury, Connecticut. “How well have they handled difficult situations? Were they aggressive in managing expenses? Did they take steps to diversify their revenue sources?”
Webster Bank issued $53 million of SBA loans across all programs in 2014, up more than 40% since 2010, and is “looking for ways to say yes,” says Guy. Most businesses that qualify for conventional financing also qualify for an SBA loan, he says, but the bank may recommend the latter if it sees weaknesses in a company’s credit or growth history. That said, “an SBA loan is not a replacement for a bad loan,” he adds.
Although the SBA loan process is notoriously time consuming, involving much paperwork, Guy says Webster can process an SBA loan as quickly as a conventional loan. “We understand the program really well,” he says.
For loans of $350,000 or less, an SBA Express loan may be a better alternative, promising fast SBA approval and faster funding than a regular 7(a) loan. Express loans may also be structured as a revolving line of credit, for up to seven years. Lender spreads are capped at 4.5% for loans up to $50,000, and 6.5% for larger loans.
“You don’t have to go through the underwriting for a $350,000 loan that you would for $5 million,” comments Jackson. Many applicants for SBA Express loans “don’t have CPA-prepared financial statements,” he notes. “We’re working with tax returns, off a personal FICO score, rather than an in-depth financial analysis.”
Still, borrowers can increase their chances of securing an Express loan by giving lenders more data to work with, Jackson says; “the benefits more than outweigh the time it would take to put the information together.”
Generally, 7(a) lenders like to see a debt service coverage ratio of around 1.5 or greater, says Guy, and loan-to-value of 80% or less. He says he often sees small-business financial statements structured to reduce the owner’s taxable income, which as a result may paint a bleaker picture of a company’s cash flow than lenders like to see.
“We’re always saying, you need to think about your funding needs over time,” says Guy. “A year or two from now you may want to borrow money, and you need to show the lender that you have the ability to pay that loan back.”
Edward Teach is editor-in-chief of CFO.