Firms Finding Credit Is Tight Despite Fed Push

The Federal Reserve’s latest interest rate cut leaves the best business customers of U.S. banks paying 5% interest on loans, the lowest in a generation. But what good are low rates if you can’t get a loan?

A growing number of businesses say that after terrorists pushed a wobbly economy deeper into a slowdown, spooked lenders made credit harder to get--and often more expensive for the companies that need it most. If that trend persists, it could deepen the downturn by restraining growth.

“It’s a broad-based problem that is affecting lots of small and large companies,” said Jerry Jasinowsi, president of the National Assn. of Manufacturers, which represents 14,000 businesses. Lenders are “shutting down the credit spigot that is the lifeblood of American industry and commerce,” he said.

In a survey of 65 members of NAM’s board at the end of October, more than a third said credit was tougher or impossible to obtain. Only one said attaining credit was easier.

Anderson/White, an Alhambra general contracting firm, was shocked when Bank of America yanked its $50,000 credit line last month. In cutting off the credit, BofA said in a terse letter to company co-founder Thomas Anderson that, due to the slow economy, the bank must “limit our credit exposure to commercial contractors.”

Anderson said his company has hit every performance target in its business plan and is expecting the firm’s revenue to double to $20 million this year, with $1.6 million in profit.

“If there’s a problem, I’d like to know about it,” said Anderson, whose projects include modernizing schools in Camarillo, restoring Marina del Rey apartments and seismic retrofitting of the Costa Mesa City Hall.

BofA spokesman Ken Preston wouldn’t comment on Anderson’s case, but said the bank hasn’t stopped all such lending. He said the company decided before Sept. 11 to tighten lending standards nationwide because of past problems with the contracting industry in Florida and Texas.

In fact, a quarterly Fed survey of senior lending officers shows banks began making it harder to get loans in late 1999 and continued tightening through 2000 and most of this year.

By May, more than half the lenders surveyed--the highest level since 1990--said they were taking a tougher stance toward commercial and industrial borrowers, although that percentage dipped in the most-recent survey in August.

Consumer credit availability, on the other hand, appears to be holding up. Auto makers are promoting interest-free financing to move cars in the slow economy. And with fixed interest rates on 30-year home loans in the 6.5% range for buyers with solid credit histories, U.S. mortgage volume will reach $1.8 trillion this year, topping the previous record of $1.5 trillion in 1998.

Although a number of lenders have quit issuing credit cards, auto loans and mortgages to borrowers with poor credit ratings, many others continue to make such subprime loans in return for higher interest rates and fees.

“The question nowadays is what price people will be able to borrow at, instead of whether they can borrow at all,” said Brian Nottage, an analyst at Economy.com, an economic consulting firm in the Philadelphia area.

The slowing economy also has made consumers and businesses more cautious about debt. People who take extra cash out when refinancing homes tend to pay off credit cards rather than go on shopping sprees, said Mortgage Bankers Assn. economist Doug Duncan. And the Fed data show demand for business loans declining since early last year.

The depth of the current credit crunch for businesses is a subject of some debate.

Sung Won Sohn, chief economist at Wells Fargo, characterized this downturn and the lending cutbacks as relatively mild and said stimulating the economy is the responsibility of Fed Chairman Alan Greenspan and Congress, not lenders.

Others, however, think lenders may be overreacting and could do more to help companies weather the downturn, especially since their balance sheets are solid and they have received encouragement from the Fed to extend loans that could help businesses expand and invest.

Companies with less than prime credit ratings also are finding the going tough in the bond market, an alternative to bank loans. Riskier high-yield bonds known as “junk” bonds made up 15.4% of the $419 billion in bonds issued during the first half of the year, but just 6.1% of the $110.8 billion issued since Sept. 11.

“A lot of these companies [that use junk financing] are younger and faster-growing, and their expansion plans can be brought to a halt by the inability to access credit,” said John Lonski, chief economist at Moody’s Investor Service, a bond-rating company. “It’s definitely an impediment to the economy regaining momentum.”

Similar complaints were heard at a recent National Assn. of Manufacturers meeting in Washington, said board member Stephanie Harkness, chief executive of Pacific Plastics & Engineering, an injection-molding company near Santa Cruz that is benefiting from the low interest rates.

Pacific is enjoying a boom phase, with revenue up 55% this year on strong sales of medical products, and Harkness said Wells Fargo has funded that growth with ample credit at a point or half a point above the prime rate. Since the prime rate fell half a point to 5% last week, that will mean Pacific can borrow at 6% or less.

But less-fortunate companies at the NAM meeting were telling different tales: reductions of up to 33% in their credit limits, banks increasing interest rates from 4 points above the prime rate to 8 points.

“It was horrific for industries like high tech and steel, anything where the banker sees a higher risk,” Harkness said.

Investors in corporate securities also have recoiled, as witnessed by Cary Hyden, a corporate finance lawyer for Latham & Watkins in Costa Mesa. Hyden saw three deals go “into an immediate holding pattern” after Sept. 11.

One of the deals, a private-equity investment in a public Silicon Valley tech firm, is on “permanent hold,” Hyden said. And a similar private investment in a Seattle start-up backed by Microsoft co-founder Paul Allen has a 50% chance of success with the stock priced 25% to 30% lower than had been expected, he said.

The third deal, a high-yield bond offering for a corporate training concern, also has a 50% chance of being completed, Hyden said. But if it is, the bonds will have to pay as much as 14% interest--two points higher than expected.

“There will be consequences” for companies such as these, Hyden said. “Some will fail, or they’ll need to be acquired by someone that has adequate financing already.”

There are significant reasons for lenders to worry about risk, given an economy that was sputtering even before Sept. 11. Year-to-year earnings comparisons are at the worst levels in 20 years.

A survey by regulators in the spring found that 9.4% of the largest bank loans to major corporations were at risk of default, up from 5.2% a year earlier. And Moody’s said the junk bond default rate reached 9.7% last month and could peak at 11% early next year.

Many bankers were expecting an improved economy by late summer. The Fed’s August survey of loan officers showed about 40% were tightening commercial and industrial lending--still high, but a noticeable decline from the high in May.

But when the terrorist attacks drove the economy into recession, they also drove lenders to clamp down on credit, as they historically have done in reaction to shocks such as the oil embargo by the Organization of Petroleum Exporting Countries, said Sohn, of Wells Fargo.

“When you go from the expectation of growth to recession, that obviously makes a difference,” Sohn said. “The jobless rate goes up, cash flows diminish and the credit quality of many of America’s businesses goes down.”

Lonski, of Moody’s Investor Service, said that despite rising delinquencies, the nation’s banking industry has plenty of loan-loss reserves and capital. He said he thinks front-line bank examiners are pressuring the institutions to cut their credit risk, even as some top regulators appear to be encouraging banks to do more to accommodate borrowers.

“The regulators sometimes appear to be of two minds on this,” he said.

Meanwhile, companies such as Anderson/White are seeking new credit. Brian Nichols, the company’s marketing director, said the firm has loans in good standing from Wells Fargo and an alternate credit line with United Pacific Bank in Industry, so it can get by.

Wells Fargo also has begun tightening its lending requirements, Nichols said, and the company is in discussions with United Pacific about a new $500,000 Small Business Administration loan to pay off its total current debt of $400,000 and provide $100,000 in working capital.

In its letter to Anderson, BofA said Anderson/White’s balance on the credit line--about $40,000--would be turned into a loan repayable over 48 months.

The bank expressed regret, saying: “As conditions improve, we hope we will once again be able to provide you with a similar credit product. We don’t want to lose you as a customer.”

But Nichols said it will be difficult for the bank to win back the confidence of companies like his.

“What a lack of foresight,” he said. “The world is cyclical. If you go out of your way to alienate an entire industry, they’re not going to forget it.”