SBA lending in a high interest rate, recessionary climate

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During a recession, the impact on SBA lending can be significant. The Small Business Administration (SBA) typically provides loans to small businesses that may not qualify for traditional bank loans. In times of economic hardship, these loans can be critical to help businesses stay afloat, retain employees, continue operating, expanding one’s business, or acquiring a business. However, during a recession, lenders may be less likely to issue loans due to the increased risk of default. This can lead to a decrease in SBA lending, as lenders become more cautious and conservative in their lending practices.

During a recession, small businesses may struggle to meet the SBA’s eligibility requirements, such as having a strong credit score and sufficient cash flow. As a result, fewer businesses may be able to qualify for SBA loans.  In the current climate of higher interest rates and the specter of a recession looming, business acquisition SBA loans are challenging to consummate.

Higher interest rates can have a significant impact on the leverage a buyer can put on an acquisition. Leverage refers to the amount of debt a buyer uses to finance an acquisition, compared to the amount of equity they contribute. When interest rates are high, the cost of borrowing increases, which can limit the amount of debt a buyer can take on to finance an acquisition. For example, in the low interest rate environment of 2021, buyers were able to leverage (i.e., take out loans for) 6x cash flow of a target. In today’s interest rate environment, 5x cash flow (EBITDA) is more plausible.

Lower leverage capacity typically equates to a lower valuation placed on a business, a higher equity contribution from the buyer, or both. Furthermore, higher interest rates can impact the cost of servicing the debt used to finance the acquisition. If the cost of debt is high, the interest expense can eat into the profits generated by the acquired business, making it more difficult to meet debt payments and generate a return on the investment.

Despite these challenges, the SBA can play a critical role in helping small businesses weather a recession. The agency may increase its lending programs or offer more flexible terms to help businesses access the capital they need. Additionally, the SBA may work with lenders to encourage them to issue loans to small businesses in need.

Overall, while a recession and/or high interest rates can have a significant impact on SBA lending, SBA loans remain an important resource for small businesses during difficult economic times.