Survey Defines Financial Services Used by Small Businesses

Small businesses contribute much to the economy. Since these businesses finance themselves differently from larger entities, understanding trends in their financing methods and their sources of capital are important to both policy makers and economic research. The results of the 2003 Survey of Small Business Finances (SSBF) were released last month, according to the Federal Reserve Board (Fed). The National Opinion Research Center (NORC) at the University of Chicago reports that financial data was collected from businesses with fewer than 500 employees.

The previous survey covered 1987, 1993 and 1998, according to the Fed. The 1987 and 1993 surveys were named the National Survey of Small Business Finances. Interviewing of businesses began in mid-2004 where the businesses were asked to report income data for their fiscal years ending May 1, 2003, through April 30, 2004.

Alan Greenspan, then chairman of the Fed, wrote in a letter to small businesses selected to participate in the 2003 survey, “The Federal Reserve Board is concerned with the ways in which regulatory changes affect small businesses. For example, in recent years, many smaller banks have been allowed to consolidate into larger banks. The change in banking structure may lead to changes in the financial products and services available to small businesses. Such changes can, in turn, have important implications for economic policymaking.”

Small businesses account for about half of the private sector output in the U.S. economy. They also employ more than half of private-sector workers and generated between 60 and 80 percent of net new jobs annually for the past ten years. The Fed reports that data was gathered from 4,240 selectively representative small firms operating in the U.S. at the end of 2003.

To illustrate the extent of technology used within small firms, the first SSBF to ask firms about their computer use was the 1998 survey. Firms reporting in that survey came to 76.2 percent, while in the 2003 survey that number went to 85.9 percent. Online banking made a marked increase as well. Businesses reporting in 1998 came to 15 percent. Businesses reporting online banking rose dramatically to 46.8 percent in 2003, according to the Fed.

The number of business and professional firms increased over previous surveys. The Fed reports that more than half of these businesses found nondepository institutions, such as brokerages, pension firms and insurance and mortgage companies, to be a more important source of financing. This number was 40 percent in the 1998 survey.

The use of thrift institutions increased from 9 percent in 1998, to about 14 percent in 2003. Small businesses in New England used these financial institutions over those in other parts of the country, at 52 percent. The Fed reports that thrifts in New England tend to look more like commercial banks in their business lending. Firms in the Pacific area of the West were more likely to use credit unions.

Interest rates might exceed the interest rates of other types of loans, but the use of personal credit cards has remained consistent at 47 percent from 1998, while the use of business credit cards has increased greatly. Business credit cards increased from 34 percent to 48 percent in 2003. Credit cards do provide a convenient method to pay bills and track expenses though, according to the Fed.

Commercial banks continued to be used for checking and savings accounts, non-lease and vehicle loans and financial management services, according to the Fed. They also use complex credit-scoring models to evaluate borrowers.

Use of trade credit turns into a form of financing, especially if a bill for goods or services is not paid on time. Use of trade credit for longer-term financing purposes by firms would ultimately hinder their ability to obtain credit from other sources. Trade credit reduces transaction costs and was used by 60 percent of small businesses reporting in 2003, according to the Fed. Construction, manufacturing and wholesale firms tended to use trade credit over those in other industries.

Alan Greenspan continued in his letter to small businesses selected to participate in the 2003 survey, “To obtain a full picture of small businesses and their financial needs, the Federal Reserve sponsored the first Survey of Small Business Finances in 1987. The survey was so successful in filling gaps in the data that it was conducted again in 1993 and 1998. The data collected in these surveys have been critical for policy decisions at the Federal Reserve and in other parts of the government. However, both the state of the economy and the use of technology are very different today than they were five years, when the last survey was conducted.”

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