In a recent post, I introduced my company's effort to grade American banks on their small-business lending activity.
A big part of the discussion involves what constitutes a small-business loan. On our report cards, we calculated the grades as a ratio of the banks' domestic deposits to their small-business loan balances - which we define, as does the Federal Deposit Insurance Corporation, as those with a balance of $1 million or less. By contrast, when the big banks issue their own small-business lending report cards, they define loans as those made to companies with revenue of $20 million or less.
As we dug into our debate, we learned that business credit card balances are included in the small-business loans that banks report to the F.D.I.C. We realized this after the big banks defended their small-business lending records by stating that they held 80 percent of all the loans under $100,000. But the average balance of these loans is just $6,323 - which raises an interesting question: Is it fair for the big banks to equate credit card lending with the much more rigorous process of qualifying a business for a more substantial loan with a balance of, say, $100,000 to $1 million?
The following is a condensed version of my recent e-mail conversation with Scott Talbott, senior vice president for government affairs at the Financial Services Roundtable. We started with Mr. Talbott expressing his objections to our system.
Mr. Talbott: The self-created grading model misleads the public and creates the false impression that only smaller banks are good sources of small-business loans. But in fact, four out of five small-business loans under $100,000 are managed by the nation's top 50 banks according to the most recent F.D.I.C. Call Report.
The grading system does not enable a big bank to achieve a fair grade even if it's successful at lending to both large and small businesses. As you might expect, small banks have smaller deposit bases and do not make large dollar loans to, say, large corporations or governments, while larger banks have more diversified portfolios. The formula also omits other sources of small-business financing that large banks support. The grading system is misleading because it asserts there's a correlation between total deposits and small-business loans without backing up this hypothesis.
The result of this distortion is churning out undeserved F's and painting an inaccurate, broad-based picture of both the lending and financial services that large banks provide to small businesses.
Me: Given that there are nearly 7,500 F.D.I.C.-regulated banks in the United States, we are the first to admit that no comparison metric is perfect. We decided that our loans-to-deposits ratio is the fairest, though, because it gives every bank a chance to prove its small-business commitment, regardless of its size. In fact, fewer than hal f of the top 50 banks - ranked by deposits - earned F's. And four “big banks†earned B's. [Editor's note: American Express actually scored an A, but this was largely a result of credit card lending.]
The idea for bankinggrades.com originated with our frustration with the small-business lending report cards that your members publish. They report on loans to companies with revenue of $20 million or less, and this creates confusion as the vast majority of small businesses have revenue of $1 million or less. Would your members consider changing their reporting standards?
Mr. Talbott: I have to check, but I believe the reports are probably mandated by the federal banking regulators. We can't change those on our own.
I don't know if the $1 million data is all that readily available. We have been working on various internal projects in this area and each bank tracks lending information differently, and of course, new reports cost money and time.
All that being said, I'm more than happy to explore with you ways to make the system better and reduce criticism.
Me: It would be great if you could dig in. I think that the only federal mandate is to file the call reports, which is the data we use for bankinggrades.com. And in terms of revenue, the banks need to have the revenue of all the companies that they categorize as having revenue of $20 million or less. So I would imagine it would be just as easy for them to cut the data with a smaller parameter. It's the same exercise that they're going through anyway.
All of this confusion arises from the lack of a consistent definition of what constitutes a small business. In a recent announcement, 13 of your member banks committed to increasing small-business lending by $20 billion over the next three years. Is there an agreed-upon definition for what constitutes a small business for this commitment?
Mr. Talbott: I have done some checking and, as I'm sure you can imagi ne, changing report parameters has a host of challenges.
As you already pointed out, there is no set standard for defining “small business†and any effort to do so would both be simultaneously over-inclusive and under-inclusive. After much debate, most of the major players in the industry began to report new loan originations to small businesses with under $20 million in annual revenue. There was consensus that the characteristics of businesses with less than $20 million in annual revenue - management structures, number of employees, etc. - were distinguished enough from those with more than $20 million in annual revenue to make the $20 million mark meaningful.
The banks that choose to report this number are doing so voluntarily and are going beyond what's required by the federal banking regulators. It is important to note that most small banks do not report this number and do not provide their small-business lending results for any size business they serve. So, even if we disagree with a definition of what a small business constitutes, it is fair to say that large banks go above and beyond what is required to report.
Me: Your explanation of how your member banks choose to define a small business is one of the primary reasons why we launched bankinggrades.com. And that's why we turned to the F.D.I.C. data - in fact, the F.D.I.C. call reports break small-business loans down into categories of loans under $100,000, loans between $100,000 and $250,000, and loans between $250,000 and $1 million. There are just under 15 million loans on the books under $100,000 and just over two million over $100,000.
If you look at the average balance of the loans under $100,000, it's $6,323 for the top 50 banks. So we're scratching our heads, trying to figure out how these could be anything but credit card loans - with maybe a few small lines of credit mixed in.
Mr. Talbott: The world of small-business lending is complicated becau se each small business is unique - each one is a different size, has different assets, revenue patterns and streams, operates in different locations and requires a unique lending relationship to help them succeed. Consequently, there is no one-size-fits-all answer, which is why we take exception to your model. Your approach, by focusing on one aspect of a bank's total operations, is simultaneously both over-inclusive and under-inclusive, and at, worst, misleading to small-business owners.
To your question about the makeup of this loan data, the F.D.I.C. Call Reports do include credit card loans as part of the small-business loan mix. This reporting reflects the reality that many small businesses require a mix of lending sources, including credit cards, as well as family, friends, traditional bank loans, home equity lines of credit, and more, to prosper.
We believe the best way to grade a bank for small-business loans is for small-business owners to do research, i nterview banks in person, and comparison-shop - and ultimately find the bank, large or small, that offers the loans, products, and small-business services that best suit the small-business owner's needs. Relying on a catchy metric is more damaging in the long run and undermines the possibility of a great banking relationship.
Me: Don't you think it's misleading to lump credit card balances in with small-business loans?
Mr. Talbott: Including credit card balances, which are loans too, reflects the reality that a large majority of small-business owners use their credit cards to run their business. They buy everything from light bulbs and paper clips to inventory.
What do you think? Has this discussion helped bring any clarity?
Ami Kassar founded MultiFunding, which is based near Philadelphia and helps small businesses find the right sources of financing for their companies.
