Small Business Administration
7(a) Loan Program Needs Additional Performance Measures Gao ID: GAO-08-226T November 1, 2007The Small Business Administration's (SBA) 7(a) program, initially established in 1953, provides loan guarantees to small businesses that cannot obtain credit in the conventional lending market. In fiscal year 2006, the program assisted more than 80,000 businesses with loan guarantees of nearly $14 billion. This testimony, based on a 2007 report, discusses (1) the 7(a) program's purpose and the performance measures SBA uses to assess the program's results; (2) evidence of any market constraints that may affect small businesses' access to credit in the conventional lending market; (3) the segments of the small business lending market that were served by 7(a) loans and the segments that were served by conventional loans; and (4) 7(a) program's credit subsidy costs and the factors that may cause uncertainty about these costs.
As the 7(a) program's underlying statutes and legislative history suggest, the loan program's purpose is intended to help small businesses obtain credit. The 7(a) program's design reflects this legislative history, but the program's performance measures provide limited information about the impact of the loans on participating small businesses. As a result, the current performance measures do not indicate how well SBA is meeting its strategic goal of helping small businesses succeed. The agency is currently undertaking efforts to develop additional, outcome-based performance measures for the 7(a) program, but agency officials said that it was not clear when they might be introduced or what they might measure. Limited evidence from economic studies suggests that some small businesses may face constraints in accessing credit because of imperfections such as credit rationing, in the conventional lending market. Several studies GAO reviewed generally concluded that credit rationing was more likely to affect small businesses because lenders could face challenges in obtaining enough information on these businesses to assess their risk. However, the studies on credit rationing were limited, in part, because the literature relies on data from the early 1970s through the early 1990s, which do not account for recent trends in the small business lending market, such as the increasing use of credit scores. Though researchers have noted disparities in lending options among different races and genders, inconclusive evidence exists as to whether discrimination explains these differences. 7(a) loans went to certain segments of the small business lending market in higher proportions than conventional loans. For example, from 2001 to 2004 25 percent of 7(a) loans went to small business start-ups compared to an estimated 5 percent of conventional loan. More similar percentages of 7(a) and conventional loans went to other market segments; 22 percent of 7(a) loans went to women-owned firms in comparison to an estimated 16 percent of conventional loans. The characteristics of 7(a) and conventional loans differed in several key respects: 7(a) loans typically were larger and more likely to have variable rates, longer maturities, and higher interest rates. SBA's most recent reestimates of the credit subsidy costs for 7(a) loans made during fiscal years 1992 through 2004 indicate that, in general, the long-term costs of these loans would be lower than initially estimated. SBA makes its best initial estimate of the 7(a) program's credit subsidy costs and revises the estimate annually as new information becomes available. In fiscal years 2005 and 2006, SBA estimated that the credit subsidy cost of the 7(a) program would be equal to zero--that is, the program would no longer require annual appropriations of budget authority--by, in part, adjusting fees paid by lenders. However, the most recent reestimates, including those made since 2005, may change because of the inherent uncertainties of forecasting subsidy costs and the influence of economic conditions such as interest rates on several factors, including loan defaults and prepayment rates.
GAO-08-226T, Small Business Administration: 7(a) Loan Program Needs Additional Performance Measures
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United States Government Accountability Office:
GAO:
Testimony:
Before the Subcommittee on Federal Financial Management, Government
Information, Federal Services, and International Security, Committee on
Homeland Security and Governmental Affairs, U.S. Senate:
For Release on Delivery:
Expected at 2:00 p.m. EDT:
Thursday, November 1, 2007:
Small Business Administration:
7(a) Loan Program Needs Additional Performance Measures:
Statement of William B. Shear:
Director:
Financial Markets and Community Investment:
GAO-08-226T:
GAO Highlights:
Highlights of GAO-08-226T, a testimony before the Subcommittee on
Federal Financial Management, Government Information, Federal Services
and International Security, Committee on Homeland Security and
Governmental Affairs, U.S. Senate.
Why GAO Did This Study:
The Small Business Administration‘s (SBA) 7(a) program, initially
established in 1953, provides loan guarantees to small businesses that
cannot obtain credit in the conventional lending market. In fiscal year
2006, the program assisted more than 80,000 businesses with loan
guarantees of nearly $14 billion. This testimony, based on a 2007
report, discusses (1) the 7(a) program‘s purpose and the performance
measures SBA uses to assess the program‘s results; (2) evidence of any
market constraints that may affect small businesses‘ access to credit
in the conventional lending market; (3) the segments of the small
business lending market that were served by 7(a) loans and the segments
that were served by conventional loans; and (4) 7(a) program‘s credit
subsidy costs and the factors that may cause uncertainty about these
costs.
What GAO Found:
As the 7(a) program‘s underlying statutes and legislative history
suggest, the loan program‘s purpose is intended to help small
businesses obtain credit. The 7(a) program‘s design reflects this
legislative history, but the program‘s performance measures provide
limited information about the impact of the loans on participating
small businesses. As a result, the current performance measures do not
indicate how well SBA is meeting its strategic goal of helping small
businesses succeed. The agency is currently undertaking efforts to
develop additional, outcome-based performance measures for the 7(a)
program, but agency officials said that it was not clear when they
might be introduced or what they might measure.
Limited evidence from economic studies suggests that some small
businesses may face constraints in accessing credit because of
imperfections such as credit rationing, in the conventional lending
market. Several studies GAO reviewed generally concluded that credit
rationing was more likely to affect small businesses because lenders
could face challenges in obtaining enough information on these
businesses to assess their risk. However, the studies on credit
rationing were limited, in part, because the literature relies on data
from the early 1970s through the early 1990s, which do not account for
recent trends in the small business lending market, such as the
increasing use of credit scores. Though researchers have noted
disparities in lending options among different races and genders,
inconclusive evidence exists as to whether discrimination explains
these differences.
7(a) loans went to certain segments of the small business lending
market in higher proportions than conventional loans. For example, from
2001 to 2004 25 percent of 7(a) loans went to small business start-ups
compared to an estimated 5 percent of conventional loan. More similar
percentages of 7(a) and conventional loans went to other market
segments; 22 percent of 7(a) loans went to women-owned firms in
comparison to an estimated 16 percent of conventional loans. The
characteristics of 7(a) and conventional loans differed in several key
respects: 7(a) loans typically were larger and more likely to have
variable rates, longer maturities, and higher interest rates.
SBA‘s most recent reestimates of the credit subsidy costs for 7(a)
loans made during fiscal years 1992 through 2004 indicate that, in
general, the long-term costs of these loans would be lower than
initially estimated. SBA makes its best initial estimate of the 7(a)
program‘s credit subsidy costs and revises the estimate annually as new
information becomes available. In fiscal years 2005 and 2006, SBA
estimated that the credit subsidy cost of the 7(a) program would be
equal to zero”that is, the program would no longer require annual
appropriations of budget authority”by, in part, adjusting fees paid by
lenders. However, the most recent reestimates, including those made
since 2005, may change because of the inherent uncertainties of
forecasting subsidy costs and the influence of economic conditions such
as interest rates on several factors, including loan defaults and
prepayment rates.
What GAO Recommends:
In the report discussed in this testimony, GAO recommended that SBA
complete and expand its work on evaluating 7(a)‘s performance measures
and that SBA use the loan performance information it collected, such as
defaults rates, to better report how small businesses fare after they
participate in the program. SBA concurred with the recommendation but
disagreed with one comparison in a section of the report on credit
scores of small businesses with 7(a) and conventional loans. GAO
believes that its analysis provides a reasonable basis for comparing
these credit scores.
[hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-08-226T].
To view the full product, including the scope and methodology, click on
the link above. For more information, contact William B. Shear at (202)
512-8678 or shearw@gao.gov.
[End of section]
Mr. Chairman and Members of the Subcommittee:
I am pleased to have the opportunity to be here today to discuss the
Small Business Administration's (SBA) 7(a) loan program. Initially
established in 1953, the 7(a) program guarantees loans made by
commercial lenders--mostly banks--to small businesses for working
capital and other general business purposes.[Footnote 1] As the
agency's largest loan program for small businesses, the 7(a) program is
intended to help these businesses obtain credit that they cannot secure
in the conventional lending market. For example, because they may lack
the financial and other information that larger, more established firms
can provide, some small businesses may be unable to obtain credit from
conventional lenders. The guarantee provided through the 7(a) program
assures lenders that they will receive an agreed-upon portion
(generally between 50 percent and 85 percent) of the outstanding
balance if a borrower defaults on a loan. Because the guarantee covers
a portion of the outstanding amount, lenders and SBA share some of the
risk associated with a potential default, decreasing the lender's risk
and potentially making make more credit available to small businesses.
In fiscal year 2006, the 7(a) program assisted slightly more than
80,000 businesses by guaranteeing loans valued at nearly $14 billion.
In my testimony, I will discuss the findings from our recent report on
the SBA's 7(a) loan program.[Footnote 2] Specifically, my testimony
addresses (1) the 7(a) program's purpose and the performance measures
SBA uses to assess the program's results; (2) evidence of any market
constraints that may affect small businesses' access to credit in the
conventional lending market; (3) the segments of the small business
lending market that are served by 7(a) loans and the segments that are
served by conventional loans; and (4) the 7(a) program's credit subsidy
costs and the factors that may cause uncertainty about the 7(a)
program's cost to the federal government.
In conducting this work, we reviewed the program's underlying statutes
and legislative history. We compared the measures that SBA uses to
assess the performance of the 7(a) program to criteria that we
developed for successful performance measures and interviewed SBA
officials on the agency's efforts to improve its performance measures.
In addition, we summarized peer-reviewed studies on market
imperfections in the lending market. Relying on SBA data from 2001
through 2004 and on the Federal Reserve's 2003 Survey of Small Business
Finances (SSBF), we compared characteristics and loan terms of 7(a)
borrowers to those of small business borrowers.[Footnote 3] Finally, we
compared SBA's original credit subsidy cost estimates for fiscal years
1992 through 2006 to SBA's current reestimates, (as reported in the
fiscal year 2008 Federal Credit Supplement) and interviewed SBA
officials about the differences.[Footnote 4] We conducted our work in
Washington, D.C., and Chicago between May 2006 and July 2007 in
accordance with generally accepted government auditing standards.
In summary:
* As the 7(a) program's underlying statutes and legislative history
suggest, the loan program's purpose is to help small businesses obtain
credit. The 7(a) program's design reflects this legislative history,
but the performance measures provide limited information about the
impact of the loans on participating small businesses. The underlying
statutes and legislative history of the 7(a) program help establish the
federal government's role in assisting and protecting the interests of
small businesses, especially those with minority ownership. The
program's performance measures focus on indicators that are primarily
output measures--for instance, they report on the number of loans
approved and funded. But none of the measures looks at how well firms
do after receiving 7(a) loans, so no information is available on
outcomes. As a result, the current measures do not indicate how well
the agency is meeting its strategic goal of helping small businesses
succeed. The agency is currently undertaking efforts to develop
additional, outcome-based performance measures for the 7(a) program,
but agency officials said that it was not clear when these measures
might be introduced or what they might measure.
* Limited evidence from economic studies suggests that some small
businesses may face constraints in accessing credit because of
imperfections such as credit rationing in the conventional lending
market. Some studies showed, for example, that lenders might lack the
information needed to distinguish between creditworthy and
noncreditworthy borrowers and thus could "ration" credit by not
providing loans to all creditworthy borrowers. Several studies we
reviewed generally concluded that credit rationing was more likely to
affect small businesses, because lenders could face challenges
obtaining enough information on these businesses to assess their risk.
However, the studies on credit rationing were limited because the
researchers used different definitions of credit rationing and the
literature relied on data from the early 1970s through the early 1990s.
Data from this period does not account for recent trends in the small
business lending market, such as the increasing use of credit scores,
which may provide needed information and thus reduce credit rationing.
Though studies we reviewed noted some disparities among borrowers with
respect to race and gender in the conventional lending market, the
studies did not offer conclusive evidence on the reasons for those
differences.
* 7(a) loans went to certain segments of the small business lending
market in higher proportions than conventional loans from 2001 to 2004.
First, a higher percentage of 7(a) than conventional loans went to
minority-owned and start-up businesses. For example, 28 percent of 7(a)
loans compared with an estimated 9 percent of conventional loans went
to minority-owned small businesses from 2001 through 2004. In addition,
25 percent of 7(a) loans went to small business start-ups, while the
overall lending market served almost exclusively established firms
(about 95 percent). However, more similar percentages of 7(a) and
conventional loans went to other segments of the small business lending
market, such as women-owned firms and those located in distressed
neighborhoods. For example, 22 percent of 7(a) loans went to women-
owned firms compared to an estimated 16 percent of conventional loans.
Finally, the characteristics of 7(a) and conventional loans differed in
several key respects. In particular, 7(a) loans typically were larger
and more likely to have variable rates, longer maturities, and higher
interest rates than conventional loans to small businesses.
* SBA's current reestimates of the credit subsidy costs for 7(a) loans
made during fiscal years 1992 through 2004 indicate that, in general,
the long-term costs of these loans will be lower than initially
estimated. Loan guarantee programs can result in subsidy costs to the
federal government, and the Federal Credit Reform Act of 1990 (FCRA)
requires, among other things, that agencies estimate the cost of the
loan guarantees to the federal government. SBA makes its best initial
estimate of the 7(a) program's credit subsidy costs and revises the
estimate annually as new information becomes available. Starting in
fiscal year 2005, SBA estimated that the credit subsidy cost of the
7(a) program would be equal to zero--that is, the program would no
longer require annual appropriations of budget authority. To offset
some of the costs of the program, such as default costs, SBA adjusted a
fee paid annually by lenders that are based on the outstanding portion
of the guaranteed loan so that the initial credit subsidy estimates
would be zero (based on expected loan performance). However, the most
recent reestimates, including those made since 2005, may change. Any
changes would reflect the inherent uncertainties of forecasting subsidy
costs and the influence of economic conditions such as interest rates
on several factors, including loan defaults (which exert the most
influence over projected costs) and prepayment rates. Unemployment,
which related to the condition of the national economy, could also
affect the credit subsidy cost--for instance, if unemployment rises
above projected levels, loan defaults are likely to increase.
* Our recent report made a recommendation to SBA that was intended to
help ensure that the 7(a) program was meeting its mission
responsibility of helping small firms succeed through guaranteed loans.
Specifically, we recommended that SBA complete and expand its current
work on evaluating the program's performance measures and use the loan
performance information it already collects, including defaults and
prepayment rates, to better report how small businesses fare after they
participate in the 7(a) program. SBA concurred with the recommendation
but has not yet told us how the agency intends to implement it.
* Finally, SBA disagreed with our analysis that showed limited
differences in credit scores between small businesses that accessed
credit without SBA assistance and those that received 7(a) loans. We
believe that our analysis of credit scores provides a reasonable basis
for comparison. As SBA noted in its comments, we disclosed the
limitations of the analysis and noted the need for some caution in
interpreting the results. Taking into account these limitations, we
believe that future comparisons of comparable credit score data for
small business borrowers may provide SBA with a more conclusive picture
of the relative riskiness of 7(a) and conventional borrowers,
consistent with the intent of our recommendation.
Background:
To be eligible for the 7(a) loan program, a business must be an
operating for-profit small firm (according to SBA's size standards)
located in the United States. To determine whether a business qualifies
as small for the purposes of the 7(a) program, SBA uses size standards
that it has established for each industry. SBA relies on the lenders
that process and service 7(a) loans to ensure that borrowers meet the
program's eligibility requirements.[Footnote 5] In addition, lenders
must certify that small businesses meet the "credit elsewhere"
requirement. SBA does not extend credit to businesses if the financial
strength of the individual owners or the firm itself is sufficient to
provide or obtain all or part of the financing the firm needs or if the
business can access conventional credit. To certify borrowers as having
met the credit elsewhere requirement, lenders must first determine that
the firm's owners are unable to provide the desired funds from their
personal resources. Second, lenders must determine that the business
cannot secure the desired credit for similar purposes and the same
period of time on reasonable terms and conditions from nonfederal
sources (lending institutions) without SBA assistance, taking into
account the prevailing rates and terms in the community or locale where
the firm conducts business.
According to SBA's fiscal year 2003-2008 Strategic Plan, the agency's
mission is to maintain and strengthen the nation's economy by enabling
the establishment and viability of small businesses and by assisting in
the economic recovery of communities after disasters. SBA describes the
7(a) program as contributing to an agencywide goal to "increase small
business success by bridging competitive opportunity gaps facing
entrepreneurs." As reported annually in SBA's Performance and
Accountability Reports (PAR), the 7(a) program contributes to this
strategic goal by fulfilling each of the following three long-term,
agencywide objectives:
* increasing the positive impact of SBA assistance on the number and
success of small business start-ups,
* maximizing the sustainability and growth of existing small businesses
that receive SBA assistance, and:
* significantly increasing successful small business ownership within
segments of society that face special competitive opportunity gaps.
Groups facing these special competitive opportunity gaps include those
that SBA considers to own and control little productive capital and to
have limited opportunities for small business ownership (such as
African Americans, American Indians, Alaska Natives, Hispanics, Asians,
and women) and those that are in certain rural or low-income areas. For
each of its three long-term objectives, SBA collects and reports on the
number of loans approved, the number of loans funded (i.e., money that
was disbursed), and the number of firms assisted.
Loan guarantee programs can result in subsidy costs to the federal
government, and the Federal Credit Reform Act of 1990 (FCRA) requires,
among other things, that agencies estimate the cost of these programs-
-that is, the cost of the loan guarantee to the federal government. In
recognizing the difficulty of estimating credit subsidy costs and
acknowledging that the eventual cost of the program may deviate from
initial estimates, FCRA requires agencies to make annual revisions
(reestimates) of credit subsidy costs for each cohort of loans made
during a given fiscal year using new information about loan
performance, revised expectations for future economic conditions and
loan performance, and improvements in cash flow projection methods.
These reestimates represent additional costs or savings to the
government and are recorded in the budget. FCRA provides that
reestimates that increase subsidy costs (upward reestimates), when they
occur, be funded separately with permanent indefinite budget
authority.[Footnote 6] In contrast, reestimates that reduce subsidy
costs (downward reestimates) are credited to the Treasury and are
unavailable to the agency. In addition, FCRA does not count
administrative expenses against the appropriation for credit subsidy
costs. Instead, administrative expenses are subject to separate
appropriations and are recorded each year as they are paid, rather than
as loans are originated.
The 7(a) Program's Policy Objectives Reflect Legislative History, but
Its Performance Measures Do Not Gauge the Program's Impact on
Participating Firms:
The legislative basis for the 7(a) program recognizes that the
conventional lending market is the principal source of financing for
small businesses and that the loan assistance that SBA provides is
intended to supplement rather than compete with that market. The design
of the 7(a) program has SBA collaborating with the conventional market
in identifying and supplying credit to small businesses in need of
assistance. Specifically, we highlight three design features of the
7(a) program that help it address concerns identified in its
legislative history. First, the loan guarantee, which plays the same
role as collateral, limits the lender's risk in extending credit to a
small firm. Second, the "credit elsewhere" requirement is intended to
provide some assurance that guaranteed loans are offered only to firms
that are unable to access credit on reasonable terms and conditions in
the conventional lending market. Third, an active secondary market for
the guaranteed portion of a 7(a) loan allows lenders to sell the
guaranteed portion of the loan to investors, providing additional
liquidity that lenders can use for additional loans.
Furthermore, numerous amendments to the Small Business Act and to the
7(a) program have laid the groundwork for broadening small business
ownership among certain groups, including veterans, handicapped
individuals, and women, as well as among persons from historically
disadvantaged groups, such as African Americans, Hispanic Americans,
Native Americans, and Asian Pacific Americans. The 7(a) program also
includes provisions for extending financial assistance to small
businesses that are located in urban or rural areas with high
proportions of unemployed or low-income individuals or that are owned
by low-income individuals. The program's legislative history highlights
its role in, among other things, helping small businesses get started,
allowing existing firms to expand, and enabling small businesses to
develop foreign markets for their products and services.
All nine performance measures we reviewed provided information that
related to the 7(a) loan program's core activity, which is to provide
loan guarantees to small businesses. In particular, the indicators all
provided the number of loans approved, loans funded, and firms assisted
across the subgroups of small businesses the 7(a) program was intended
to assist.
We have stated in earlier work that a clear relationship should exist
between an agency's long-term strategic goals and its program's
performance measures.[Footnote 7] Outcome-based goals or measures
showing a program's impact on those it serves should be included in an
agency's performance plan whenever possible. However, all of the 7(a)
program's performance measures are primarily output measures. SBA does
not collect any outcome-based information that discusses how well firms
are doing after receiving a 7(a) loan. Further, none of the measures
link directly to SBA's long-term objectives. As a result, the
performance measures do not fully support SBA's strategic goal of
increasing the success of small businesses by "bridging competitive
opportunity gaps facing entrepreneurs."
SBA officials have recognized the importance of developing performance
measures that better assess the 7(a) program's impact on the small
firms that receive the guaranteed loans. SBA is still awaiting a final
report, originally expected sometime during the summer of 2007, from
the Urban Institute, which has been contracted to undertake several
evaluative studies of various SBA programs, including 7(a), that
provide financial assistance to small businesses.
SBA officials explained that, for several reasons, no formal decision
had yet been made about how the agency might alter or enhance the
current set of performance measures to provide more outcome-based
information related to the 7(a) program. The reasons given included the
agency's reevaluation of its current strategic plan in response to
requirements in the Government Performance and Results Act of 1993 that
agencies reassess their strategic plans every 3 years, a relatively new
administrator who may make changes to the agency's performance measures
and goals, and the cost and legal constraints associated with the Urban
Institute study. However, SBA already collects information showing how
firms are faring after they obtain a guaranteed loan. In particular,
SBA regularly collects information on how well participating firms are
meeting their loan obligations. This information generally includes,
among other things, the number of firms that have defaulted on or
prepaid their loans--data that could serve as reasonable proxies for
determining a firm's financial status. However, the agency primarily
uses the data to estimate some of the costs associated with the program
and for internal reporting purposes, such as monitoring participating
lenders and analyzing its current loan portfolio. Using this
information to expand its performance measures could provide SBA and
others with helpful information about the financial status of firms
that have been assisted by the 7(a) program.
To better ensure that the 7(a) program is meeting its mission
responsibility of helping small firms succeed through guaranteed loans,
we recommended in our report that SBA complete and expand its current
work on evaluating the 7(a) program's performance measures. As part of
this effort, we indicated that, at a minimum, SBA should further
utilize the loan performance information it already collects, including
but not limited to defaults, prepayments, and number of loans in good
standing, to better report how small businesses fare after they
participate in the 7(a) program. In its written response, SBA concurred
with our recommendation.
Limited Evidence Suggests That Certain Market Imperfections May
Restrict Access to Credit for Some Small Businesses:
We found limited information from economic studies that credit
constraints such as credit rationing could have some effect on small
businesses in the conventional lending market. Credit rationing, or
denying loans to creditworthy individuals and firms, generally stems
from lenders' uncertainty or lack of information regarding a borrower's
ability to repay debt. Economic reasoning suggests that there exists an
interest rate--that is, the price of a loan--beyond which banks will
not lend, even though there may be creditworthy borrowers willing to
accept a higher interest rate.[Footnote 8] Because the market interest
rate will not climb high enough to convince lenders to grant credit to
these borrowers, these applicants will be unable to access credit and
will also be left out of the lending market.[Footnote 9] Of the studies
we identified that empirically looked for evidence of this constraint
within the conventional U.S. lending market, almost all provided some
evidence consistent with credit rationing. For example, one study found
evidence of credit rationing across all sizes of firms.[Footnote 10]
However, another study suggested that the effect of credit rationing on
small firms was likely small, and another study suggested that the
impact on the national economy was not likely to be
significant.[Footnote 11]
Because the underlying reason for having been denied credit can be
difficult to determine, true credit rationing is difficult to measure.
In some studies we reviewed, we found that researchers used different
definitions of credit rationing, and we determined that a broader
definition was more likely to yield evidence of credit rationing than a
narrower definition. For example, one study defined a firm facing
credit rationing if it had been denied a loan or discouraged from
applying for credit.[Footnote 12] However, another study pointed out
that firms could be denied credit for reasons other than credit
rationing--for instance, for not being creditworthy.[Footnote 13] Other
studies we reviewed that studied small business lending found evidence
of credit rationing by testing whether the circumstances of denial were
consistent with a "credit rationing" explanation such as a lack of
information. Two studies concluded that having a preexisting
relationship with the lender had a positive effect on the borrower's
chance of obtaining a loan.[Footnote 14] The empirical evidence from
another study suggested that lenders used information accumulated over
the duration of a financial relationship with a borrower to define loan
terms.[Footnote 15] This study's results suggested that firms with
longer relationships received more favorable terms--for instance, they
were less likely to have to provide collateral. Because having a
relationship with a borrower would lead to the lender's having more
information, the positive effect of a preexisting relationship is
consistent with the theory behind credit rationing.
However, the studies we reviewed regarding credit rationing used data
from the early 1970s through the early 1990s and thus did not account
for several recent trends that may have impacted, either positively or
negatively, the extent of credit rationing within the small business
lending market. These trends include, for example, the increasing use
of credit scores, changes to bankruptcy laws, and consolidation in the
banking industry.
Discrimination on the basis of race or gender may also cause lenders to
deny loans to potentially creditworthy firms. Discrimination would also
constitute a market imperfection, because lenders would be denying
credit for reasons other than interest rate or another risk associated
with the borrower. A 2003 survey of small businesses conducted by the
Federal Reserve examined differences in credit use among racial groups
and between genders.[Footnote 16] The survey found that 48 percent of
small businesses owned by African Americans and women and 52 percent of
those owned by Asians had some form of credit, while 61 percent of
white-and Hispanic-owned businesses had some form of credit.[Footnote
17] Studies have attempted to determine whether such disparities are
due to discrimination, but the evidence from the studies we reviewed
was inconclusive.
A Higher Percentage of 7(a) Loans Went to Certain Segments of the Small
Business Lending Market, but Conventional Loans Were Widely Available:
Certain segments of the small business lending market received a higher
share of 7(a) loans than of conventional loans between 2001 to 2004,
including minority-owned businesses and start-up firms. More than a
quarter of 7(a) loans went to small businesses with minority ownership,
compared with an estimated 9 percent of conventional loans (fig. 1).
However, in absolute numbers many more conventional loans went to the
segments of the small business lending market we could measure,
including minority-owned small businesses, than loans with 7(a)
guarantees.[Footnote 18]
Figure 1: Percentage of 7(a) and Conventional Loans by Minority Status
of Ownership, 2001-2004:
[See PDF for image]
This figure is a horizontal bar graph depicting the percentage of 7(a)
and conventional loans by minority status of ownership, 2001-2004.
The following data is depicted (percentages are approximate):
Non-minority-owned 7(a) loans: approximately 70%;
Non-minority-owned conventional loans: approximately 90% (bracket from
about 88 to 92%);
Minority-owned 7(a) loans: approximately 25%;
Minority-owned conventional loans: approximately 10% (bracket from
about 8 to 12%).
Note: The brackets on the conventional loans represent confidence
intervals. Because the data from SSBF are from a probability survey
based on random selections, this sample is only one of a large number
of samples that might have been drawn. Since each sample could have
provided different estimates, we express our confidence in the
precision of the particular results as a 95-percent confidence
interval. This is the interval that would contain the actual population
value for 95 percent of the samples that could have been drawn. As a
result, we are 95-percent confident that each of the confidence
intervals will include the true values in the study population.
Information on SBA 7(a) loans does not have confidence intervals,
because we obtained data on all the loans SBA approved and disbursed
from 2001 to 2004.
[End of figure]
Compared with conventional loans, a higher percentage of 7(a) loans
went to small new (that is, start-up) firms from 2001 through 2004
(fig. 2). Specifically, 25 percent of 7(a) loans went to small business
start-ups, in contrast to an estimated 5 percent of conventional loans
that went to newer small businesses over the same period.
Figure 2: Percentage of 7(a) and Conventional Loans by Status as a New
Business, 2001-2004:
[See PDF for image]
This figure is a horizontal bar graph depicting the percentage
conventional loans by status as a new business, 2001-2004.
The following data is depicted (percentages are approximate):
Existing (2 or more years old) 7(a) loans: approximately 75%;
Existing (2 or more years old) conventional loans: approximately 95%
(bracket from about 93 to 97%);
New (less than 2 years old) 7(a) loans: approximately 25%;
New (less than 2 years old) conventional loans: approximately 5%
(bracket from about 3 to 7%).
Note: The brackets on the conventional loans represent a 95-percent
confidence interval.
[End of figure]
Only limited differences exist between the shares of 7(a) and
conventional loans that went to other types of small businesses from
2001 through 2004. For example, 22 percent of all 7(a) loans went to
small women-owned firms, compared with an estimated 16 percent of
conventional loans that went to these firms. The percentages of loans
going to firms owned equally by men and women were also similar--17
percent of 7(a) loans and an estimated 14 percent of conventional loans
(fig. 3). However, these percentages are small compared with those for
small firms headed by men, which captured most of the small business
lending market from 2001 to 2004. These small businesses received 61
percent of 7(a) loans and an estimated 70 percent of conventional loans.
Figure 3: Percentage of 7(a) and Conventional Loans by Gender of
Ownership, 2001-2004:
[See PDF for image]
This figure is a vertical bar graph depicting the percentage of 7(a)
and conventional loans by gender of ownership, 2001-2004. The vertical
axis of the graph represents percentage from 0 to 70. The horizontal
axis of the graph represents gender of ownership and type of loan.
The following data is depicted (percentages are approximate):
Male, 7(a) loans: approximately 60%;
Male, conventional loans: approximately 70% (brackets from about 68% to
72%);
Female, 7(a) loans: approximately 22%;
Female, conventional loans: approximately 18% (brackets from about 16%
to 22%);
50/50 (male/female), 7(a) loans: approximately 17%;
50/50 (male/female), conventional loans: approximately 15% (brackets
from about 13% to 17%).
Note: The brackets on the conventional loans represent a 95-percent
confidence interval.
[End of figure]
Similarly, relatively equal shares of 7(a) and conventional loans
reached small businesses in economically distressed neighborhoods
(i.e., zip code areas) from 2001 through 2004--14 percent of 7(a) loans
and an estimated 10 percent of conventional loans.[Footnote 19] SBA
does not specifically report whether a firm uses its 7(a) loan in an
economically distressed neighborhood but does track loans that go to
firms located in areas it considers "underserved" by the conventional
lending market.[Footnote 20] SBA's own analysis found that 49 percent
of 7(a) loans approved and disbursed in fiscal year 2006 went to these
geographic areas.
A higher proportion of 7(a) loans (57 percent) went to smaller firms
(that is, firms with up to five employees), compared with an estimated
42 percent of conventional loans. As the number of employees increased,
differences in the proportions of 7(a) and conventional loans to firms
with similar numbers of employees decreased. Also, similar proportions
of 7(a) and conventional loans went to small businesses with different
types of organizational structures and in different geographic
locations.
Our analysis of information on the credit scores of small businesses
that accessed credit without SBA assistance showed only limited
differences between these credit scores and those of small firms that
received 7(a) loans. As reported in a database developed by two private
business research and information providers, The Dun & Bradstreet
Corporation and Fair Isaac Corporation (D&B/FIC), the credit scores we
compared are typically used to predict the likelihood that a borrower,
in this case a small business, will repay a loan.[Footnote 21] In our
comparison of firms that received 7(a) loans and those that received
conventional credit, we found that for any particular credit score band
(e.g., 160 to
