Credo, credis, credit. On banks, credits and small businesses

In this article, Daria Lyubchenko and I look back at the time when we worked for the EBRD small business lending projects. Russian banks were only starting to work with small businesses and “high interest rate” seemed to be the main stopper for potential borrowers. Today, doing research for a project in Central Asia, I hear similar concerns from entrepreneurs and can only repeat what we used to say to our clients twenty years ago: interest rate is not the main thing when one talks about small and micro loans. In the growing markets, banks should learn to work with small businesses, examine their numbers and listen to the voices of their owners. When a “meeting of minds” takes place, both banks and businesses benefit.

Consumer Loan or Business Loan?

The rise of consumer lending based on big data and newly emerged fin-techs providing express loans seem to have overshadowed the issue of small business lending. Why should business owner deal with all the formalities in a bank if they can take loans as consumers, and then repay whenever the business generates enough cash. The solution seems convenient but it misses out on development opportunities such as building partnerships and understanding of own potential for growth as well as risks. This understanding entrepreneur can get from working with banks.

Businesses and Banks

Small businesses need credit. They can borrow from friends or family, or, in developed markets today, apply for a loan at a specialised digital platform were risk are assessed and applications processed within hours. If they decide to borrow from a bank, such loan can become a first step toward a long relationship.

It is quite rare that a small company needs a deposit to save. Small businesses either withdraw profits from the business or use the profit to develop. When they invest into development – businesses grow, become medium-sized and then large.

Does a small business need a current account? It depends on the market and the requirements of the regulators.  At an early stage small businesses use bank accounts only to pay taxes. (This was the case in Russia in the 90s and this seems to be the case in the Central Asia where a great number of b2c transactions is done via electronic wallets).

As things develop, a small business customer needs current bank account for most transactions, an internet-based “bank-client” system to access the account remotely, to check account balance and view payments history. Then businesses might need a mechanism for paying employees’ salaries with distribution to personal accounts, a “payroll/salary project”, insurance for real estate or merchandise.

Loans, however, are always more important.  So let us talk about loans.

A New Start

When can a business apply for a bank loan? On many occasions. Bank simply provides for whatever the client’s operational needs are. When are banks eager to lend and when they say “no”? Entrepreneur starts to think about credit when they just start a business. Where one gets money to renovate premises, or buy equipment, or pay rent for three months in advance, buy goods or raw materials, and also advertise, so that the first customers come? The start of any business is a sort of investment, and one does not know if it pays back.

Will banks deal with start-ups? If the client has no experience in business, and no current business can support the development of their new business, i.e. pay the bank in case something goes wrong with the new project – bank will not go for a loan, even if the client has a business plan and all the calculations. The risk is too big. And if there is a collateral? you might want to ask. The answer will be the same, even if the client has a very solid and easy-to-sell collateral!

The thing is, selling collateral is not banks’ business. The bank will only issue the loan for the start-up if an existing business, profitable enough, becomes a guarantor, or a person with steady, reliable income becomes a guarantor. The person’s monthly income should be roughly two times larger than the monthly amount to be paid to the bank.

In theory, bank can become partner in the business it finds promising, and the deal will then become in effect similar to joint venture. In this case, the bank will have decision-making powers to influence the course of the business. Such deals, however, are not usually done with small businesses.


Next, the support of the bank is needed when entrepreneur wants to expand business. If a small company wants to open a new outlet, launch a new type of product or service, purchase additional equipment, buy out rented premises – all these are good enough purposes for a bank to lend money. Bank will analyse client’s current business, understand whether the client can repay the loan from profit, see how experienced in business the client is, how they cope with problems, work with suppliers and customers, manage processes and calculate risks.

How much?.. That is the question

Let’s take an example. A hairdresser who has fifty clients monthly comes to a bank asking for a loan for a chain of hairdresser’s shops. Will the bank lend money to such a client? Certainly not. The size of the loan should be comparable with the size of the existing business.

Would you give money to someone who works as a petrol station worker, for a chain of petrol stations if he promises to pay you back in six months? – Probably not. You will, however, consider a loan to the owner of the petrol station who wants to build a second one in another district of the city. If their plan is realistic and their current business is healthy, it is likely that the loan will be successfully repaid.

Plans versus Extraordinary Circumstances

One more reason for a small business client to come for a loan is the liquidity gap, “no cash!”. For example, the client does not have the money to pay employees’ salaries, taxes, rent for the previous two months, or to pay the delivery of goods or services to suppliers.

In this case, the bank will be eager to hear an explanation for the liquidity gap. If it is caused by a drop in demand, a decline in profitability, or too much money were taken out for owner’s personal needs – the bank will not do such a deal. The risk is too big to take.

If the drop in demand is seasonal and the client is thinking about it in advance and wants to take loan to bridge the gap – then the bank will be happy to make a credit deal. Unpredictable periodic liquidity problems in the history of the business always tell the bank that the client does not sufficiently understand risks and does not watch cash flow.


Another common reason for small business clients to approach banks is to get refinancing for their existing loans. Refinancing means taking a new loan to close existing one, or several loans. Banks often offer refinancing to good businesses if they want to bring them in as clients.

There is an option for a bank to refinance several loans from different banks with just one new loan. It is good for the client since they would not need to worry about monthly payments to several banks. Pay one bank and continue with your business. It is good for the bank: a new client will take new loans in the future if satisfied with the first experience.

There are other cases where clients apply for loans, such as, for instance, a buy-out of shares to pay off other founders. But those are not typical small business cases.

Loans in foreign currency – lessons learned

Suppose a client has a foreign currency loan, the US dollar exchange rate has soared, and the client is unable to pay the monthly instalment because business profit is not enough. Today, this state of affairs is seen as a result of a double mistake of the bank and the client. If business revenues are in the local currency, then in local currency, in local currency only should the bank consider lending.

Linking loan to the dollar shifts the currency risk onto the client. After the 2008 crisis bank regulations became stricter, and such a bank might be seen today as an irresponsible creditor.

Here is what happened in Russia in 1998 and 2008 when clients were not capable of repaying their dollar and euro loans: bank accepted that client find money elsewhere and repay the currency loan. The bank would then issue the same or higher amount in local currency, for longer term, with repayments schedule adjusted to the new situation. Those were in fact restructuring exercises, painful experience for both sides.

Non-financial/advisory services

Consulting, or advisory, services is a very important component of banks’ offer. Advisory services is not at all the main activity for banks, it is part of marketing aimed to attract attention of existing and potential clients.

Thanks to bank’s effort to promote own services, entrepreneurs can network at round tables, business breakfasts and presentations and, certainly, learn more about banking and financing opportunities. This way, banks take role of educators. Banks educate clients and this way contribute to the development of the country economy and improve business practices.

It is much easier for banks to deal with clients who understand and speak banks’ language. Bankers find it much, much easier to work with clients who are used to their questions and requirements, keep their accounting in accordance with bank’s requirements, can make financial projections and extract necessary numbers from their books in a moment. Such cooperation becomes not only mutually beneficial but also enriching, thanks to constant exchange of information and knowledge.

It can often happen that after an initial analysis of business bank says that lending to the business in question is not possible, because bankers see mistakes in business management, or weak marketing, or a dangerous dependence on just one supplier. If such a “no” is taken as initial diagnostics, it does businesses a lot of good.

Many banks supported by international organisations offer non-financial services, on paid basis or free of charge. Such services may include self-diagnostics based on questionnaires, or exploring pain points with the help of a mentor recommended by the bank. These are excellent opportunities; the decision to use them is entirely on client’s side.

Once upon a time…

Telling a tale seems like an easier way to tell this story. Once upon a time there was a country, which got through a major change. The country’s banking system went through a transformation: some old state banks stood strong, some new private ones emerged. Banks were only interested in big businesses. Small ones were left to cook their own soup.

To get a starting capital entrepreneurs would sell apartments, take money from relatives, friends, or from criminal groups, risking everything. But there was no way businesses could be started without money. Capitalist market follows the “money – commodity – money” pattern. So where does one get the money?

Bankers in a bunker

Why banks did not see small businesses as clients? First of all, they thought small business lending was not profitable and too risky. They had no idea how to work with small clients because their normal tools for risk analysis were not applicable. Small clients did not have those financial reporting statements that banks were used to look at: balance sheet, profit & loss account, cash flow account.

How bankers were supposed to understand if company makes profit or not? will the company have cash when the time for the first repayment comes? Here comes the client with numbers scribbled in a notebook, impossible to make sense of it. Can bank actually earn anything disbursing small loans?

Corporate business is quite a different matter! Large corporate companies will present all the statements in black and white, offer real estate as collateral. Real estate will be easy to sell if company does not pay their loan back. And the profit is will be fast and big! One month of work, some risk to take, yes, but the profit, the profit!

Time went by, number of small enterprises grew and there definitely seemed to be a group of clients with whom no bank knew how to work, and it looked like a niche. All corporate clients seemed to be taken. Small ones were growing. This meant they were not so risky and may be even profitable… highly profitable. Bankers also started to hear that there are countries where small businesses generate 60 or 70 per cent of GDP. Banks started to try to figure out how to approach this group.

Bankers in the fields

Smart banks decided to look at the risks that small businesses have, and ways to minimise them. If risks seem higher than those of corporate companies, and loan amounts small, then interest rate should be higher so that banks can earn.

Particularly important that small ones do not have good collaterals. Bankers went to the fields, went to see small companies at their sites and learn – how businesses themselves know whether they made profit or not? How they keep goods inventory? How do they look for suppliers and customers and make transactions? After talking to clients, shuffling papers, going through books, bankers tries to put all the information they collected into their usual forms or, rather, make forms for the clients – balances, P&Ls, cash flow statements.

It turned out that for small businesses it was quite easy to do! Oh yes, it takes some running around and some sweating, some browsing through street markets and storage houses, long conversations about small things… but it will bring results. Client will get a loan, will pay it back with interest, and both client and bank will be happy.

It became clear that banks can credit small companies, and it is a profitable business. As for small businesses, it is so much better for them to take money for development from a bank and not from a criminal. Selling one’s flat is not necessary either!

Banks-trailblazers started to streamline small business lending and create specialized departments. Some banks started to specialise in small businesses, tried to reach new cities and new clients.

Take a loan, breath normally

Very soon small business lending started to be an important activity of the most important banks in the country. Bankers felt on a social mission, promoters of progress. Businesses that started from scratch grew rapidly and turned into medium-size and sometimes into large enterprises.

This way, banks got interested and then fell in love with small business and, most importantly, found a way to deal with it. They started to learn about clients’ needs and preferences, created special products, assigned account managers to curate only “small ones”.

At first, banks gave loans in cash but then they encouraged clients to open accounts and convinced them to try other services. Small businesses started to use accounts, came out of shadow and, eventually, understood that they cannot live without banks.

This is a story about building relationship and mutually beneficial cooperation between banks and small businesses in one country. One can say many different things about that country. That country is very diverse, it can encourage and it can disappoint. However, banks and small businesses did find their common ways there. So far so good.