Business loans for small business owners during COVID-19: Lenders are back

This text is based on Svenska Dagbladet's article "Easier for small businesses to obtain bank loans again", published 09-07-2020.

At Krea, we want to create greater transparency in the lending market for businesses. That is why we share our own data and insights into what the business loan market looks like in Sweden.

A few months have now passed since the crisis broke out. During this time, we at Krea have begun sharing our own data, where among other things, we illustrate developments in lending terms and loan approval rates through our charts, KREA Business Loans Barometer. So far, we have addressed the following questions about the business lending market in Sweden:

• Have conditions and activity in the business lending market recovered since the COVID-19 crisis?
• What did the activity look like during the summer months?
• Are we seeing differences in lenders' approval rates toward businesses? We also break down companies on their creditworthiness to gain deeper insight.

This is the third article in the series in which we at Krea present developments in the business lending market. Previous articles in the same series can be found here:

1. Information on industries affected by the COVID-19 crisis: Here
2. Information on how business loan terms have changed: Here

How did the activity look like during the summer months?

In recent months the lending market has been highly unpredictable, almost resembling a roller coaster in terms of lending activity and the terms offered by banks and lenders. This has led many small businesses to seek alternative sources of financing, including lenders other than their primary banks, as they have increasingly been denied credit by their usual banks.

For example, during the first week of May, only 33% of small business owners were approved for business loans — marking the lowest level of lending activity since the crises began.

KREA Business Loans Barometer — Sweden (13 months from August 2019)

% share of approved applications

To support businesses facing difficulties, the government has launched a support package known as "adjustment support". This was introduced on April 30th 2020, and you can read more about it here. In addition, sole traders finally received support in the form of revenue-based aid.

The program provides small and medium-sized businesses with direct financial support equivalent to up to 75% of their lost revenue during March and April 2020. The package is intended to cover the potential losses that businesses have had to endure as a result of the crisis.

At the same time, we saw a new record in the number of small businesses being denied business credit, with up to two-thirds of small companies that applied for loans receiving a rejection during the same week the adjustment support was launched.

Does this apply to companies with good credit quality?

A possible explanation for the increase in rejected credit applications could be information asymmetry in the lending market. This concept implies that only companies with "weaker" business models seek financing, while companies with strong business models do not need financing to the same extent and therefore choose not to apply.

Economists refer to lower-quality companies as "lemons" while high-quality companies are called "peaches". (You can read more about the theory here: The market for lemons.) In Sweden, all companies receive a credit rating from Upplysningscentralen (UC). Companies with a credit rating of "5" would theoretically be called peaches, while companies with a credit rating of "1" would be considered lemons.

To test whether the theory aligns with our data, we examined what the lending market looked like for companies with higher credit ratings — 3 or above.

As the following chart shows, as many as 50% of companies with high credit rating also had their loan applications rejected in April and May. In other words even the "peaches" turned sour during these months.

KREA Business Loans Barometer — Good Credit Rating — Sweden (13 months from August 2019)

% share of approved applications

However, in the weeks preceding the crisis, more than 90% of companies with high credit rating, "peaches", had their loan applications approved. This represents a significant difference compared to the crisis period.

In contrast, we see a rapid rebound shortly after the lowest point. Support packages and the overall economic outlook appear to have improved, and today we can conclude that 90% of the "peaches" are once again being approved.