The Forgotten Art of Small Business Lending: Where did Adam Smith’s Invisible Hand go?

| Business Miscellaneous

By Mike Alerding     When referring to the current recession, my late father used to say, “If you think this is bad, you should have lived through the Great Depression – now THOSE were hard times”. Clearly, economic conditions were much worse in most segments of our economy during the Great Depression, but I still cannot imagine that the plight of small businesses could have been much worse than they are today as it relates to finding a bank that will actually lend money. I am not THAT old (61), but in my 40 years of working with small businesses, I have never seen anything like today’s small business banking environment.

Now I recognize that banks are in the business of holding money, “investing” money in a variety of investment vehicles, including business loans, and providing a clearing house for businesses to conduct business. If banks did nothing but recklessly make investments in business loans that were to ultimately be uncollectible, the bank wouldn’t last long. But I am not talking about reckless lending – I am talking about common sense and applying just a little bit of business acumen to the lending process.

In the past two years, lending to small, privately-held businesses has virtually come to a halt. I have seen situations lately that are so ridiculous that when I put my notes together for this piece, I found it hard to believe that we have gotten to this point. Do you want to know why our economy has stagnated? I have one simple answer – discriminatory and capricious lending decisions on the part of banks when it comes to small businesses.

I have clients tell me almost every week or so that they could make a decent profit and grow their businesses if they only had the capital to fund new products, services, locations, technology and marketing programs.  What little personal capital they had a few years ago is long since depleted by a myriad of maladies, including declining real estate values, a sour stock market and previous investments in their businesses.  Banks have traditionally filled the role of providing growth capital – and now that has dried up and small businesses are desperately hanging on.  What used to be a strategy for success has quickly changed to a strategy for survival.

The discriminatory lending practices in 2010 don’t include the traditional discrimination factors of the past relating to sex, race or creed.  Rather, banks have decided to label certain industries, like the construction and transportation industries, as unworthy of consideration and generically classify them as bad risks.

The construction industry has been the hardest hit of them all, and I don’t mean the large speculative shopping center at the edge of town.  I am talking about the plumbing, roofing or HVAC contractor who services either commercial or residential customers.  The brush used to paint the creditworthiness of these specialty contractors is the same brush used to evaluate the speculative shopping center customers.  I had a banker tell me recently that “Construction is a 4-letter word to commercial lenders.  Don’t even come in to see us if you want to discuss anything related to construction”.  I tried to give him some details of the business and the owners, but he dismissed me before I could give him any details.

The transportation industry is in the same ballpark as construction.  Don’t even go near a bank and talk about borrowing money for a business in the transportation industry – you will quickly be told that “their” bank doesn’t lend to the transportation industry.
The problem is that ALL banks have the same bias and are following the same discriminatory practices – it’s like they all got together for lunch one day and decided that certain industries are just not good for business, even though they provide many jobs and add significant value to our economy.

After a couple of drinks after work, the bankers will tell you that the real problem is that the bankers don’t run the banks any more.  The regulators and examiners run the banks – at least as it relates to commercial lending.  With the cost of money so low and with TARP money available to banks, there is no real incentive to make loans and the regulators know it.  Bankers fall back on the “Wizard of Oz” excuse when turning down a small business loan – it is the man behind the curtain who is calling the shots.

The easiest decision in business is always to do nothing.  The old adage “Nothing ventured, nothing gained” seems to have been replaced with “Nothing ventured, nothing lost”.  I hope that we see the day soon where bankers are able to be bankers again and where the regulators go back to providing banks with guidelines and overall policies and get out of the lending business.  Adam Smith’s Invisible Hand is sorely missing from our small business lending practices in this country.  It is time for Adam’s hand to re-establish its presence in the small business lending industry.

Mike Alerding is a co-founder and Senior Director of  Alerding CPA Group, an Indianapolis-based public accounting firm. Visit our website:

This post was written by:

Michael Alerding, CPA
Senior Director

Mike has over 40 years of experience in public accounting. He is a prior columnist for The Indianapolis Business Journal and serves on multiple boards throughout Indianapolis. He currently focuses his time on litigation support, business valuations, succession planning consulting and audit and accounting engagements.
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