Who needs the SBA?

Policy Review, Jan/Feb 1997 by Glass, Stephen

Speaking at the White House Conference on Small Business in 1995, President Clinton praised the "leaner, more invigorated, more committed" Small Business Administration (SBA). The loan-guarantee program of this small federal agency, he said, is the best way to get venture capital into the hands of America's entrepreneurs. Nine months later, the SBA followed up with a report identifying the most "small-business-friendly" banks in the country. Among the nation's very best: First Capitol, in York, Pennsylvania. But a close look at First Capitol doesn't reveal how the federal government builds what Clinton called tomorrow's Intel, Apple, and FedEx. Instead it shows how banks can boost small businesses better without government help.

With three branches in central Pennsylvania, First Capitol has lent more than $50 million to local small businesses-15 percent of which are headed by women or minorities. Its loan default rate is a meager 1.5 percent. By contrast, the default rate on SBA loans in the area is 6.2 percent, and its default rate nationwide is even higher.

First Capitol's clients include hightech startups, construction companies, retail franchises, and mom-and-pop grocers. Its loan officers write business plans for their clients and meet with the entrepreneurs monthly, if not weekly. All this made First Capitol the fastestgrowing bank in the region, boosting assets 16-fold from $5 million to more than $90 million in just eight years.

Most remarkable, First Capitol refuses to get the SBA or any government agency to guarantee its loans. "Why should we?" asks Tom Capello, First Capitol's president. "We pick winners."

Since First Capitol was founded in 1988 with only a card table and a telephone in shared office space, it has specialized in loans to small businesses. Other banks had written off York as a Rust Belt city doomed to sputter as the local Caterpillar tractor factory laid off workers. So depressed were regional expectations that no new bank had opened in York in nearly 60 years. First Capitol's founders saw the changing labor market as an opportunity to make money investing in startups.

Character as Asset

Ever since Thom Anstadt was in grade school, he had worked in his family's downtown printing shop. Eventually he and his uncle took over the company. When desktop publishing transformed the industry in the late 1980s, Anstadt proposed that the firm seek a niche in high-quality color printing. His uncle balked at the change, so Anstadt quit the business to start Colorgraphics, Inc.

"Most banks are allergic to startups," Anstadt says. "We had nothing. No equipment. Just an idea." He drafted a proposal and visited countless banks. According to Anstadt's own proposal, Colorgraphics would lose money for at least one and a half years because of its high start-up costs. Most scoffed. It was a loan, some bankers said, that the SBA would never guarantee.

But First Capitol did. The nowprofitable printing firm has 22 employees and $2 million in yearly revenues. It has not only met every loan payment, but it has borrowed three additional times to expand.

Anstadt's story is typical of First Capitol. York, according to a top city official, is having "a small-business renaissance because of that bank." How does First Capitol do it? By counting on character.

Unlike other banks, First Capitol doesn't get Washington to guarantee its loans. At other banks, if the small business fails, most of the lost money is reimbursed by the government. These banks make money just by making loans. First Capitol only makes money if the startups succeed. And First Capitol has found that the best way to predict a business's prospects is to evaluate the owner's honor. While his competitors talk about the "two C's" of lending (credit and collateral), Capello has added another: "character."

To this end, Tom Sauer, the bank's chief loan officer, personally reviews each application. He and his staff spend hours talking with applicants about their businesses. He even meets with their families to make sure they'll have the necessary emotional support.

Most important, Sauer was not trained as a banker. Before coming to First Capitol, he had managed a local munitions factory. Although Sauer modestly says that means he "won't bump into the machines" when he tours businesses, it also means he understands them. "The other [banks] I applied to just looked at my numbers," says a local grocer who got a loan from First Capitol. "That doesn't tell them much. [Sauer] would smell the fruit to make sure it was fresh. He walked the aisles. He knows what I'm about."

Ultimately, each loan applicant also meets with Capello. First Capitol has found that letting even the smallest applicants meet with the bank's president strengthens their commitment to meeting the payments.

It works. Since March 1994, more than three-fourths of the bank's loans have gone to small businesses. In that same period, the bank's stock has risen is upward: Profits in the third quarter of 1996 were the best ever-48 percent better than 1995. First Capitol thrives, not in spite of their SBA-free policy, but because of it. The rigidity and bureaucracy of the SBA's textbook loans may invite failure. For entrepreneurs like Patricia Cumor, failures cost jobs.