Before the Federal Reserve began raising interest rates in March 2022, finance leaders lived in a world where credit seemed to flow as free as water as central banks held rates at, near or even below zero.

Today, that world is gone. In its place is one of soaring interest rates and tightening credit conditions, exacerbated by the recent collapse of three U.S. banks starting with Silicon Valley Bank. Finance leaders, habituated to years of easy credit, now face a new environment where capital is neither cheap nor abundant.

“I think it’s a totally different game right now. There is no credit to be had and it doesn’t matter if it’s traditional lending through a bank, which was already hard, but even in the startup community right now, startup capital — especially after what happened to SVB — it’s completely dried up,” said W. Michael Hsu, founder of California’s DeepSky, a CFO consulting and outsourced accounting company, in an interview. 

The statistics bear this out. After improving for most of 2021, the American Bankers Association’s Credit Conditions Index — an aggregation of several proprietary diffusion indices — showed steadily worsening conditions each successive quarter. The most recent second quarter report was no exception, pointing to continued decline in both quality and availability of credit, with a rise in delinquencies and ongoing small business stress cited as factors. 

Overall, people are paying higher rates for smaller loans which now require more negotiation and due diligence to approve, and more collateral to support them. This has served to increase stress and reduce maneuvering room for businesses of all sorts. Casey Rosenzweig, CFO of Mohawk Paper in upstate New York, knows this all too well. She said her own company’s debt service costs have increased 78% year over year, or 75% on a manufacturing unit basis for the same debt profile. It has become the largest change out of all spend categories.

“It is significantly harder to obtain credit. I believe deals that once took two months to finalize now take four plus months, driving up the cost of deals and compounding the interest rate increase impacts — time really is money — and overall cost of doing business,” she said in an email. “The Fed’s actions follow the old playbook — increase interest rates and slow economic growth. [But] the rate of increases has been stifling.” 

And that’s if they can even get loans at all. Jeroen Van Doorsselaere, Vice President of Global Product & Platform Management for Wolters Kluwer Finance, Risk & Reporting, based in the Netherlands, noted that lenders, particularly banks, have been facing problems of their own that make them especially wary of new borrowers. Beyond just the interest rate, they’re also contending with macroeconomic uncertainty such as the war in Ukraine, and rising default risk. These conditions have given rise to a paradox where those most in need of credit are least able to access it and vice versa.

“It is probably very unlikely, unless you have the absolute best credit score and credentials that you can provide, that funding will be available. In other words if you have a risky business it is becoming increasingly difficult to find funding,” he wrote in an email. 

Cutting costs, finding alternatives

In the face of such challenges, many CFOs are seeking to aggressively cut costs. Hsu said that CFOs feel that now is not the time to embark on a major new project or initiative. It is instead time to reevaluate priorities and find what fat can be trimmed. There is not a single company in his portfolio, he said, that isn’t doing this.

“Cut costs. That’s the smartest move. It’s where we buckle down and get to the basics and survive … You don’t make money going into a recession, which every indicator is showing, you make money coming out of the recession,” he said. 

But many times a company cannot simply forgo all credit. With banks tightening up, some have turned to nonbank financers who may have different criteria. 

Sol Lax, CEO of small business lending fintech Revenued, based in New Jersey, said his company has seen credit applications rise as bank loans become harder to access, as have other fintech lenders who have stepped up to fill the void. He said this has been because they have capacities that make them more comfortable with certain risk profiles than traditional banks.

“If you’re a bank, you really should be looking over your clients’ bank accountants every day if they're a depositor getting a line of credit, but I don’t know any bank that does that, they don’t use cash flow to monitor. But fintech lenders are doing that, restricting or expanding available credit based on how a business does in real time, which means you’re less terrified of a recession,” he said in an interview. 

But just as banks have increased their standards, so too have certain nonbank lenders. Dan Tuzzio, CFO and COO of New York City-based financing company Merchant Financial — which he said has done “quite well” over the last year — said the company has introduced higher rates to reflect rising default risk, increased required collateral, and expanded its use of financial covenants as an underwriting tool.

“We certainly do have a quality over quantity mindset at this point,” he said in an interview. 

Canary in the coal mine

As difficult as the current credit environment is right now, some believe it is likely to get even worse this year. Many lines of credit had their terms set before the interest rate increases, said Wolters Kluwer’s Van Doorsselaere, and some even managed to renew at favorable rates as they took off. But eventually those deals will expire, and people will be forced to make new ones under dramatically different conditions.

“There is a bit of a lagging indicator as some lenders have renewed at the ‘old’ rates yet, and with revolving rates it will take time until it really affects those credits. Overall, we will see the real credit crunch towards the second half of the year. However, it all depends on further actions by the Fed and the economic conditions,” he said.  

Similarly Lax, of Revenued, said that while small businesses didn’t suddenly all lose their lines of credit, there will still come a time when they’ll need to negotiate a new deal, and when that happens they may find their credit costs increase dramatically, if they can get credit at all. And he noted that what happens to small businesses tends to eventually spread to the big ones. 

“Small business is a sort of canary in the coal mine in that what you see in the cash flows of small businesses you see broadly six months later, nine months later,” he said.