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A Chasm Deepens in America's Credit Markets, Swallowing Smaller Firms

Published 10/23/2020, 07:00 AM
Updated 10/23/2020, 07:18 AM
© Reuters.  A Chasm Deepens in America's Credit Markets, Swallowing Smaller Firms

(Bloomberg) -- Times are tough at SeaWorld (NYSE:SEAS), home of killer whales and bottlenose dolphins. But they’re even tougher at GeckoParx, a few hours down the Florida Turnpike.

Both amusement parks were forced to close temporarily when the coronavirus pandemic struck. Despite setback after setback, SeaWorld Entertainment Inc.  — a publicly traded corporation — easily secured something that every business needs: credit. It borrowed almost $730 million in the capital markets. And smaller GeckoParx? It’s shutting its doors after burning through nearly all of its money.

The gulf between big companies that have ready access to credit and just about everyone else got wider in the fallout of the Covid-19 crisis, as the Federal Reserve blew open capital markets and pledged to keep interest rates low as long as needed. Bond markets are rarely an option for the likes of GeckoParx, with its 40,000 square feet of trampolines, ninja courses and arcades.

Even federal relief programs for small businesses — including a $525 billion lifeline that initially kept millions afloat — have often benefited the largest of small companies, those with established banking relationships. GeckoParx couldn’t hold on even with government help.

“I am at a point right now where I am just putting my hands up and walking out the door,” said John Duran, who founded GeckoParx in 2017 after over two decades of running family-entertainment businesses. “They didn’t even give us a chance to fight.”

The divide over access to corporate credit —  who can get it, and who can’t — is likely to deepen. And what is happening in the business world is also happening at the household level: Americans with solid incomes and good credit are getting loans, while many others are getting turned away. The sharp line between these haves and have-nots, some economists predict, could be one of the lasting consequences of the pandemic economy.

“It’s absolutely unambiguous that monetary policy has increased wealth inequalities,” Nobel Prize-winning economist Joseph Stiglitz, a professor at Columbia University, said on Bloomberg Television. “Those at the bottom are having a very hard time.”

The fallout on the fragile recovery and labor markets will play out in the next few months. Small businesses employ almost half of the country’s private-sector workforce and have contributed about two-thirds of net employment gains in recent years. They so far have proved more resilient than feared thanks in part to Paycheck Protection Program government-backed loans. But the aid ended in August without reaching some of the tiniest and most vulnerable firms, especially those owned by minorities. Prospects for more stimulus before the Nov. 3 presidential election remain uncertain.

By one estimate, the number of U.S. small businesses has dropped by almost a quarter compared with January. That’s fueling concerns that large companies, some enriched by the pandemic’s impact, will move in to fill the void.

Personal Toll

Before mid-March, GeckoParx was a successful business, pulling in $2.1 million in annual revenue, with a profit margin of almost 39%.

After being snubbed by several banks at the onset of the crisis, owner Duran received $32,700 from the Paycheck Protection Program and about $150,000 through the Economic Injury Disaster Loans, a separate federal initiative for small businesses. It wasn’t enough to cover the monthly rent and other fixed costs such as utilities and insurance. Two eviction notices followed, and Duran’s landlord personally sued him for almost $300,000 last month.

After a short trip to bankruptcy court, the 50-year-old entrepreneur has decided to close his park for good. Moreover, the house where he lives with his wife and two kids is now up for sale.

The personal toll is mounting for many other business owners across the country.

Take Tim Smith, 60, who owns vinyl-record store Papa Jazz in Columbia, South Carolina. He got a $26,600 PPP loan to help when business dropped as much as 65% at the peak of the crisis, but still had to dock his own salary to keep going. Or Dena Paolino, 55, the owner of an all-female boxing gym, Striking Beauties, in North Attleborough, Massachusetts, who couldn’t get a PPP loan and has used her personal stimulus check to keep her business afloat.

After using almost all the money they got through the PPP to keep their staff on payroll, Darlene and Mike Moore closed their southern-style restaurant in downtown Asheville, North Carolina, in mid-September, just under three years after opening.

“We knew we weren’t going to be able to sustain ourselves,” Darlene, 41 and a mother of two, said. “It became too much to endure.”

The PPP, part of an unprecedented stimulus package passed by Congress in March in response to the pandemic, was always meant as a short-term stopgap for firms with fewer than 500 employees, primarily to keep workers employed. After a rocky start, the PPP reached hundreds of thousands of truly small companies by the time it closed to new applications on Aug. 8. But many more were left behind, rejected by lenders or daunted by burdensome and often confusing rules to get the loans converted into grants.

Even if lawmakers extend the expired PPP to allow recipients to get a second loan, it won’t be enough to help those who never got one in the first place, said advocacy group Small Business Majority.

‘Bizarre Economy’

By contrast, the Fed’s action benefited all types of borrowers, as long as they were big enough to issue bonds.

One of the peculiarities of the Covid-19 crisis is the divide created between bigger and smaller firms, said Robert Bartlett, a professor of law and faculty co-director of the Berkeley Center for Law and Business. The Fed’s effort to add liquidity to the system allowed both investment-grade and junk-rated companies to access financing, while smaller firms were left with tighter credit markets, he said.

“It’s all part of this bizarre economy,” Bartlett said. “For some people, it’s record-setting highs, but desperation for others.”

The Fed announced its plan to directly purchase corporate bonds in late March, and expanded it to include some junk-rated debt in early April. The mere announcements sparked a rally so broad that junk-rated borrowers were able to hit the market before the Fed had bought a single corporate bond.

Among them was SeaWorld, which was already troubled before the pandemic forced it to temporarily close all of its 12 parks. About a month after the Fed’s announcement the Orlando-based company had sold  $227.5 million of bonds.

In July, SeaWorld made another trip to the bond market, announcing its offer on the same day it disclosed a 96% drop in second-quarter preliminary revenue compared with a year earlier. The bond attracted so much demand that the deal was increased by $100 million to $500 million.

“The pandemic has unquestionably affected businesses of all sizes in the travel, tourism, hospitality and entertainment industries including SeaWorld,’’ the company said in an emailed statement. “We have made difficult but necessary decisions to shore up our balance sheet using available resources to put the company in the best possible position to continue to contribute to our nation’s recovery.”

But the booming debt market also bolstered the fortunes of businesses that got a boost from the pandemic.

Western Global Airlines LLC, a seven-year-old air carrier with about 400 employees that serves clients such as United Parcel Service Inc (NYSE:UPS). and Amazon.com Inc (NASDAQ:AMZN)., picked up new orders as passenger airlines cut their cargo capacity and consumers flocked to online shopping.

The Estero, Florida-based company raised about $400 million in the corporate bond market. The borrowing did not come cheap at an interest rate of over 10%, but it let the co-founders and other shareholders cash out a minority stake in the company.

Western Global also received plenty of support from the government: $8.2 million via a PPP loan in April and $34.8 million starting in June through a program for the aviation industry run by the U.S. Treasury.

Western Global didn’t respond to a request for comment.

When asked for comment for the story, a Fed representative referred to an Oct. 20 speech by Daleep Singh, executive vice president at the Federal Reserve Bank of New York. Singh said the Fed's $13 billion of corporate bond purchases helped firms maintain jobs and prevented defaults. Companies that accessed the bond markets since March employ more than 16 million people, he said. The Small Business Administration declined to comment.

Widening Gap

Any concentration in market power could exacerbate disturbing trends in the U.S. economy that already emerged as a result of a decline in competition, according to an August paper by two Federal Reserve Board economists. They identified deepening inequality and financial instability as a result of larger firms controlling more of their markets.

A study published by the New York Fed in August found that Black-owned firms have been almost twice as likely to shutter during the pandemic compared to all others. About 41% of Black- and Latino-owned business said they won’t make it through the next few months without additional financial support, according to a Small Business Majority survey released on Oct. 20.

Entrepreneurs are a resilient bunch, and data show that Americans have created new businesses in surprisingly high numbers in the third quarter. It remains unclear how many will take off.

Frank Knapp, 68, whose family owns a dog-boarding business in Columbia, South Carolina, got PPP relief money in a second round to help stay afloat, after his local bank at first refused because it wasn’t comfortable with the program and risks. He worries small businesses that go away will simply be replaced by larger competitors.

“The customers they were serving aren’t doing without,” Knapp said. “They are going to get their service from a bigger business that survived.”


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