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Fed Report: Most Businesses Face Lingering Financial Hardship, But Fewer Seek Financing

  • Federal Reserve report finds that a majority of businesses are still facing financial hardships due to the COVID-19 pandemic
  • Small business owners have favored pandemic relief programs and personal assets over borrowing funds
  • Applications for traditional financing have waned in recent years, though small banks continue to earn high satisfaction ratings

Summary by Dirk Langeveld

Small businesses were continuing to reel from the effects of the COVID-19 pandemic at the end of 2021, according to a recent survey from the Federal Reserve. Small business owners were more likely to seek funds to cover operational expenses rather than business expansions, with a smaller share of respondents overall trying to secure financing.

The Fed’s Small Business Credit Survey was fielded in September and November 2021, collecting 10,914 responses from employer small businesses with fewer than 500 people on the payroll. This type of business represents 99.7 percent of firms in the United States.

The survey period occurred shortly after the spike in COVID-19 infections driven by the Delta variant, which raised concerns that the pandemic could continue to create disruptions despite widespread vaccination efforts earlier in the year. It also reflects a period of persistent pressures on small businesses due to factors like inflation, labor shortages, and supply chain problems.

COVID-19 impact

Seventy-seven percent of respondents said they were still experiencing a negative impact from the pandemic. However, responses varied considerably by industry. Half of all respondents in the leisure and hospitality industry said they were experiencing a large negative impact from the pandemic, followed by 35 percent in health care and education.

Eighty-five percent said they have experienced financial challenges in the past 12 months, up four points from 2020 and 19 points from 2019. Sixty-three percent said their revenues are lagging below pre-pandemic levels.

Forty-eight percent said their revenues have decreased in the past 12 months. Thirty-eight percent said they have increased, and 14 percent said they have stayed the same.

More than half of all respondents – 59 percent – rated their business’s financial condition as fair or poor. This was more common among certain business types, including 75 percent of those in the leisure and hospitality industry, 66 percent of those employing fewer than five people, about three-quarters of Hispanic- or Black-owned businesses, and four out of five Asian-owned businesses.

Small business owners’ economic expectations have improved since the pandemic, but are still less optimistic than pre-pandemic outlooks. Fifty-nine percent said they think their revenues will increase in the next 12 months, and 41 percent expect to add employees.

Respondents were also less likely to have outstanding debt. Seventy-four percent were in this situation, down from 80 percent in 2020 but up from 71 percent in 2019. Forty percent had debt of $100,000 or more, 34 percent had debt of less than $100,000, and 26 percent had no debt.

Staffing challenges

The report highlighted a range of staffing challenges facing small businesses. Many companies have fewer employees than they did before the pandemic, have had to reduce staff due to ongoing challenges, or are struggling to hire or retain workers.

Forty-three percent said their staffing levels are lower than they were before the pandemic. Seventy-six percent said the hardships facing their company have caused them to decrease employment or pause hiring efforts.

While 24 percent of small businesses grew their employment in the past 12 months, 33 percent decreased it. This was below pre-pandemic norms, which consistently showed that about one-third of small businesses were increasing their staffing while about one in five were reducing it.

Only 5 percent of respondents said they have not faced any operational issues in the past 12 months. Sixty percent said they have found it challenging to hire workers or retain staff, with the same share saying supply chain disruptions have affected their business.

Seventy-eight percent said their top labor issue was too few applicants for the positions they advertised. Fifty-six percent said applicants lacked the necessary skills or experience, while 40 percent said competition from other employers was their main labor challenge.

Pandemic assistance

A majority of small businesses sought to address financial challenges by seeking funds that didn’t need to be repaid, such as grants or forgivable loans through the Paycheck Protection Program. Forty-two percent applied for PPP funds in both 2020 and 2021, while 6 percent applied during the 2021 funding round only. Nine out of 10 PPP borrowers said they expect their loan to be fully forgiven.

Two-thirds of respondents said they sought assistance through COVID-19 relief programs in the past 12 months, though this was down from 87 percent in the 2020 survey. Among those who did not apply, 44 percent said they did not think they would qualify while 36 percent said they did not need relief funds.

Sixty-seven percent of those using PPP received the full amount they sought. The success rate was higher at small banks, or those with less than $10 billion in total deposits, with 71 percent of those using a small bank receiving the full amount they requested.

The Economic Injury Disaster Loan program was slightly more popular among respondents than PPP, with 48 percent using EIDL and 47 percent using PPP.

Other financing options

Sixty-one percent drew on personal funds to help support their business, while 56 percent tapped into their cash reserves. Fifty-two percent sought funding that required repayment, such as a loan.

Respondents sometimes responded with operational changes, including 45 percent that downsized operations, cut staff, or reduced hours. Twenty-eight percent made a late payment on a debt or did not pay.

Forty-six percent did not seek financing because they had adequate funds. Twenty-six percent opted not to seek financing because they were debt-averse.

Fourteen percent described themselves as being discouraged from seeking finances because they did not think they would be successful. Fifty-five percent considered their business financials to be too weak, while 32 percent thought lender requirements were too strict. Twenty-four percent believed lenders wouldn’t approve funding for a business like theirs, usually because they thought their company was too new, too small, or in an industry that lenders considered to be too risky.

Application rates for traditional financing have trended downward in recent years, falling from 43 percent in 2019 and 37 percent in 2020 to 36 percent. While 51 percent of those seeking traditional financing got the full amount sought in 2019, this share fell to 36 percent in 2020 and 30 percent in 2021. Thirty-six percent received no funding, while 34 percent received some or most of what they asked for.

Approval rates were down across the board, but were most likely to affect those struggling with pandemic issues, namely leisure and hospitality companies, the smallest firms, and businesses owned by people of color. Among those considered a low credit risk, the share receiving full funding fell from 62 percent in 2019 and 45 percent in 2020 to 38 percent.

The COVID-19 pandemic has driven a shift in why small businesses seek financing, with more looking for funds to cover operating expenses. The share of companies seeking financing for this purpose grew from 43 percent in 2019 to 63 percent in 2021, while those looking for money to expand a business fell from 56 percent to 41 percent.

Lender preferences

Fifty-six percent used a large bank for their financial services provider, while 47 percent used a small bank. However, small businesses were increasingly turning to other options for financing.

While the share of respondents looking for financing at large banks, credit unions, and community development financial institutions held steady, the share seeking funds through a small bank fell from 43 percent in 2020 to 36 percent. Twenty-seven percent turned to an online lender, up from 20 percent in 2020, while the share of those using finance companies grew from 15 percent to 18 percent. These two options also grew in popularity among applicants considered a medium or high credit risk.

Among those not using banks, 45 percent said they thought their costs and fees were too high. Twenty-four percent said they didn’t think they would meet the bank’s requirements, and 21 percent said they did not think the bank would work with a business like theirs.

Small banks offered the greatest satisfaction, with 76 percent of those using one saying they were satisfied with the experience. The share fell to 62 percent for large banks and 39 percent for online lenders. Similarly, 49 percent said they had encountered a challenge while applying for financing with a small bank while 77 percent faced a challenge with an online lender.

Small business owners were more likely to report high interest rates and unfavorable repayment terms when using an online lender. Conversely, they were more likely to report a difficult application process and a longer wait for approval when using a bank.

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