Startups and small businesses in low-income communities could be in the running for a much-needed cash infusion in the coming year as the Small Business Administration (SBA) increases its leverage into its multi-billion dollar investment program that the agency touts as a model of public-private partnership.

SBA Administrator Karen G. Mills announced during a G8 session in London on social impact investing that the agency will be expanding the amount of leverage into its second Early Stage Fund solicitation this fall, increasing that number by $50 million to $200 million.

The SBA is also increasing the allocation size for its Impact Investment Fund, from $80 million to $150 million, and the agency also recently expanded its definition of impact investing to include rural communities.

“By increasing the amount we are investing in both early stage and impact investing, we are expanding the playing field and injecting new energy and momentum into our economy, bolstering new business starts and leveraging the greatest driver of innovation and job creation in the world — the entrepreneur,” Mills said during the session.

Both of those funds are administered through the SBA’s Small Business Investment Company (SBIC) program. That initiative began in 1958 as a means to close the gap between available venture capital and the actual needs of small businesses in early stages and growth situations.

The SBA doesn’t directly inject funding into small businesses through this program, though. SBICs are actually privately owned and managed investment funds that are licensed and regulated by the SBA. The SBA guarantees leverage into these funds, and the funds turn around and make loans and investments into qualified small businesses.  

Those funds are attractive to private investors because SBIC returns stack up well compared with the private equity industry as a whole.

Growing Interest

And in a recent report, the SBA predicted bank interest in SBICs to grow in the coming years. The agency reasons this is partly because investment in SBICs can qualify toward Community Reinvestment Act Credit, but also because SBICs are among the few targeted exceptions to the Volcker Rule, which limits banks from investing in private equity vehicles.

Since 2009, the amount of capital invested into small businesses by SBICs has more than doubled, though the actual number of businesses receiving capital has dropped, suggesting that the businesses are receiving greater amounts of capital through the program. All in all, those financings are estimated to have helped create or retain more than 65,000 jobs.

According to the SBA’s own figures, there are now around 300 SBICs with more than $18 billion in capital under management, and the agency counts Quiznos and Costco among its SBIC success stories.

The SBA also highlighted JSI Store Fixtures, the recipient of funds from an SBIC, as evidence of SBIC’s efficiency. With that funding, the Milo, Maine-based firm was able to move into a larger facility, purchase new equipment and hire more workers.

SBICs are required to invest in small businesses, defined as those with a net worth under $18 million and after-tax income of less than $6 million, and they must invest 25 percent of their financings into smaller businesses, those with a tangible net worth of less than $6 million and an after-tax income under $2 million.

“Any startup is difficult. Some banks just avoid all startups, and we don’t want to be one of those banks,” said Anina Butler, a senior vice president at First Trade Union Bank. “Most banks are looking for at least two years of tax returns, and if you don’t have that, you’re not even in the consideration. And there’s a higher risk of failure that’s blended into the startup.”

Butler, who oversees First Trade’s SBA lending, said the bank’s SBA backing essentially gives them a way to say “yes” to a deal that otherwise might not qualify for a loan. That’s the same rationale behind SBICs. The SBA guarantee gives investors that extra shot in the arm to back smaller businesses and start-ups.

And while First Trade is not directly involved with SBICs, Butler said she’s glad to see the SBA ramping up its leverage into these funds.

 “The equity players are important. You need debt, and you need equity.” 

Email: lalix@thewarrengroup.com