economy Fiscal Notes

Microfinance Makes Big Impact Small Loans Help Business Grow

Many South Texas residents may never have heard of one of their region's busiest business lending institutions. But for nonprofit "microfinance" lender LiftFund (formerly known as Accíon Texas) and other nonprofit lenders, small business is good business — and great news for one of Texas' most economically challenged regions.

Microfinance "is a universal term for providing small loans, either for consumers or businesses, to those who cannot access debt from traditional financial services like a bank or credit card," says Celina Peña, chief program officer for LiftFund, the state's largest microfinance lender. "It combats predatory lending and can assist individuals in building assets and becoming part of the American financial mainstream."

Even before the Great Recession, small entrepreneurs needing startup capital faced difficulties. Since then, mainstream institutions have tightened their lending requirements — and often view small business owners as particularly risky bets. But microlenders across the U.S. are helping to fill the gap.

Funding and Assistance

With assistance from the U.S. Small Business Administration (SBA), Texas microloan entities such as LiftFund, PeopleFund, New Covenant Capital Corporation, BCL of Texas and the Alliance for Multicultural Community Services are becoming more familiar to the state's small business community.

The SBA makes funding available to specially designated intermediary lenders with nonprofit status and experience in lending and technical assistance. These lenders then make loans to eligible borrowers, at competitive interest rates, in amounts up to $50,000. The average loan size is about $13,000. Applications are submitted to the designated local intermediary lender, and all credit decisions are made on the local level.

In addition to federal funding, some microlenders receive support from public-private partnerships. San Antonio's 80/20 Foundation, founded by Rackspace Hosting's chairman Graham Weston, invests in nonprofit organizations such as LiftFund with the intent of growing small businesses that will improve the local quality of life and encourage larger companies to relocate to Texas.

The El Paso Small Business Development Center (SBDC) works in conjunction with LiftFund to assist most of its clients seeking microloans.

"The SBDC provides the majority of the technical assistance required by LiftFund," says Joseph C. Ferguson, director of the El Paso SBDC. This may take the form of one-on-one confidential business advising, project feasibility analysis and business planning.

"Quite often, the loan applicant will need assistance in properly completing the loan application," he says. "The applicant will also be schooled in understanding business financial statements. All of these services are provided at no cost to the applicant in either English or Spanish. Upon completion of the assistance provided by the SBDC, the applicant is referred back to LiftFund for project review and underwriting analysis."

Ferguson also says the SBDC's role is only to facilitate the microloan process — his organization does not make or guarantee any loan. If LiftFund decides to assist a client with an SBA guaranteed loan, SBDC helps the applicant with the required documentation and other technical assistance.

Help Along the Border

Microfinance can be particularly crucial in the Border region.

"The challenges that small businesses located along the Border face in obtaining startup and expansion financing are quite different than those of larger businesses," Ferguson says. "It's not unusual for a small business owner to be unfamiliar with business financing. Many owners started their businesses with saved money or seed capital provided by other family members."

Ferguson also notes that a lack of business education is a common denominator among microloan borrowers.

"Instead of their goal being to create and grow a business, it is usually more about creating a job for themselves," he says. "Many of the owners only have a trade or skill that they've turned into a business, [but] traditional lenders often want a formal business education or years of experience. They also lack the basic requirements for a traditional bank loan. Technical assistance is needed to create a brief business plan, financial projections and possibly even help in creating the prior year's financial statements."

"Microfinance use along the border is vital to individuals who are just not able to receive traditional financing," says LiftFund's Peña. "When you think of the Border economy, you get a sense of the poverty, but also the tremendous amount of commerce. Our work complements this environment very well."

The Border region is unlike other regions in Texas, agrees Rosa Rios Valdez, president and CEO of microlender BCL of Texas. "South Texas borrowers don't have MBAs — they typically don't even have high school diplomas. Their credit scores are lower, and most don't have enough history as an operating business. They're intimidated filling out a traditional bank application, because they don't feel a bank is welcoming their business."

Another issue for borrowers in the Border region, says Rios Valdez, is collateral. "A lot of the collateral these businesses have to offer is not bankable," she explains. "These are small businesses that don't have big plans for market penetration. The assets they have to offer as collateral are not what a bank would be interested in. If your business is making tamales, would a bank consider your tamales, or the equipment used to make them, adequate collateral for a loan?"

Tailor-made Loans

Fortunately for borrowers, microlenders look at other criteria to determine if an applicant's loan is approved.

"We look at cash flow and the experience the borrowers have in their industry or management," says Rios Valdez. "To us, it doesn't matter if you have a degree or not, it comes down to, 'Do you have the experience managing business in that industry?' If you're going to make tamales, did you supervise the production area, did you work in placing orders, are you aware of your monthly and quarterly sales? We do look at collateral, but we're flexible on that. We look at financial projections for the business: does it have a track record? What has been the cash flow in the past, and can this business support new debt now?"

LiftFund, based in San Antonio, provided nearly $57 million to small businesses and entrepreneurs in South Texas between 1996 and 2014 (Exhibit 1). It provides loans ranging from $500 to $50,000 for a period of no more than five years.

Since 1996, it has built on its success in South Texas by expanding throughout Texas and the Southeastern U.S., allowing LiftFund to service clients in Alabama, Arkansas, Kentucky, Louisiana, Mississippi, Missouri and Tennessee.

Exhibit 1:
Helping Small Business Thrive in South Texas

Through 2014, LiftFund (formerly Accíon Texas) provided small businesses and individual entrepreneurs in South Texas with nearly $57 million in loans.

LiftFund Lending in South Texas, 1996 - October 2014

LiftFund Office Total Loans Total Amount Disbursed
Rio Grande Valley — Brownsville, Harlingen, McAllen and surrounding cities (established 1998) 1,535 $19,460,359
Laredo (established 2005) 443 $5,324,609
Corpus Christi (established 2004) 693 $10,191,450
El Paso (established 1996) 1,984 $21,866,844
Total 4,655 $56,843,262

Sources: : LiftFund

Clients repay LiftFund more than 90 percent of the time. The organization credits its high repayment rates to a risk model it uses to select the most promising clients.

"We revise our formula every two years," says Peña. "It's an important element of our success. It helps folks understand we're not making decisions based on what's in front of us only, but based on our track record and theirs."

Of course, not every application is approved. According to Peña, the care with which microlenders choose their customers sets them apart from traditional lenders.

"We want to be able to support them," she says of those denied loans. "You can reapply in 90 days if you've taken certain measures to improve your financial status, and we provide guidance and partner resources."

Teaching Success

Many microfinance institutions offer their customers financial education and vocational training to encourage self-reliance and financial discipline.

LiftFund, for instance, encourages clients to take advantage of its free financial educational classes.

"Our education focuses around financial management," says Peña. "You can go to school now to become a business owner, but most of our clients didn't take that route."

The nonprofit provides would-be applicants with tips on finding funding and other steps involved in starting a business. It also collaborates with other community organizations to develop a 360-degree understanding of its clients' needs.

"While microlending is not traditional, it's a step into the financial mainstream," says Peña. "Someone can have a budget, but not really understand why they're at a negative cash flow. Or they didn't realize they had a low credit score because of something that happened three years ago."

Most of all, Peña says, LiftFund Texas wants its clients to understand basic finance and lending principles as they begin to become entrepreneurs.

"We want people to understand where they are financially," Peña says. "The loan is a vital tool, but so many other things go with that.

"When you're in the business you're in that mindset — you've got your blinders on to get business done, so having someone outside the business looking at it financially is pretty eye-opening," she says.

Building Solid Community Assets

BCL's Rios Valdez says her institution's lending philosophy takes a larger view of what small business can do to strengthen the economy of its community at large. Rios Valdez calls this sort of community asset building the "ripple effect."

"It's not just about starting a microbusiness and you've created jobs for yourself and your spouse," she says. "The whole idea of stimulating the economy is beyond having received a loan and making a nice business just for yourself. When we interview our borrowers, we ask them several questions such as, 'Do you offer your employees benefits?'

"We want our microbusinesses to create jobs at a livable wage, which is considered $10.10 an hour," Rios Valdez explains. "We want to look at the financial capability of the business, and its employees' financial ability to own a home and have a comfortable life.

"When BCL works with a microbusiness, we want to help them grow to the next level, and get the owners to understand the importance of asset building for themselves and their employees," she says.

Community Collaboration

LiftFund is working to increase its lending and make larger loans that would allow it to break even on its business loans.

"Most banks use credit cards to provide capital for small business, because business loans don't make money below a certain threshold," Peña says. "LiftFund doesn't make money on loans under $15,000. As a nonprofit, we're always trying to figure out how we crack that nut. Our average loan size is $14,000 — we're almost there."

Peña feels LiftFund's future success lies in partnering with the communities it serves, bringing key partners and community leaders together to plan for solid business development in their areas.

As proof of the success partnership can bring, Ferguson points to the wide variety of businesses in the El Paso region that have benefited from the joint assistance they have received from SBDC and LiftFund.

"These businesses range from restaurants, used car dealers, driver training schools, HVAC companies, owner-operated trucking companies, flower shops and contractors, to name a few," says Ferguson. "As diverse as they are, they all had one thing in common: for various reasons, they were unable to obtain financing through traditional lenders. Without the assistance of LiftFund and the SBDC, these businesses probably wouldn't exist."

"We recognize we can't do this work alone," agrees Peña. "It takes many players, and I think that's one of our strengths in South Texas, working with others." FN