JOANNA SLATER

00:00 EST Tuesday, February 16, 2010

NEW YORK -- More than four months have passed since Deborah Smook began searching for financing for her small packaging business - four months of false starts and dead ends.

That's how she ended up here, under the fluorescent lights of a cafeteria on the sixth floor of a labyrinthine government office in lower Manhattan. She's patiently waiting her turn to speak to lenders at an event aimed at matching small companies with sources of funds.

"It's a very hard time for small businesses," she says.

Further uptown, only a couple of days earlier, the picture couldn't have been more different. In the skyscrapers that house the country's largest banks, traders handily sold a huge bond offering by Kraft Foods in a matter of hours, swelling the firm's coffers with the $9.5-billion (U.S.) in cash it needs to swallow a takeover target. The demand for such bonds proves they're in "a sweet spot," noted one market analyst.

As the U.S. tries to navigate its way out of the worst recession in decades, companies see two very different economies, depending on their size. Large, established businesses can borrow money from investors through the corporate bond market, roaring back to life after shuddering to a halt during the financial crisis. Small firms, by contrast, aren't so lucky: They don't have the option of bypassing banks, which remain wary of lending.

That dichotomy is becoming increasingly central to the fledgling economic rebound. Traditionally, small businesses have provided an outsized proportion of new jobs as the U.S. economy emerges from recession. But without access to capital, it will be difficult for them to play that role.

"I'm hearing it everywhere I go," U.S. President Barack Obama said at a town hall in Tampa last month. "You've got a lot of small-business owners who are ready to grow, ready to hire, but they just can't get financing."

Earlier this month, he unveiled a number of proposals targeting smaller firms, including a new $30-billion fund aimed at getting them more bank loans.

That's music to the ears of the hundreds of small-business owners who packed into a conference room at that Manhattan government office last week. Each clutched a specially coloured ticket which entitled the holder to three five-minute sessions with some of the 28 lenders who had taken up positions in adjoining rooms. Ms. Smook was one of them. TurboFil Packaging Machines, the company where she is the vice-president, sells the machines that fill and assemble vessels for everything from nail polish to teeth whitener. After 10 years of steady growth, the company saw its sales fall last year for the first time, she says, "but we made it through."

Late last year, the company landed a government contract, which would mean hiring new employees beyond its current staff of 10. In order to get the business, however, TurboFil would need some specialized financing, largely to protect initial payments by its customer in the event the company didn't complete the order. Their existing bank - JPMorgan Chase - said no, Ms. Smook says. "They did not show any interest."

As it turns out, her five-minute chats with lenders didn't yield anything either, but Ms. Smook says she's waiting to hear from two less-sizable banks. "As a small company, you need a small bank," she asserts. "That's the mistake we made."

A spokesman for JPMorgan Chase said that TurboFil has a line of credit with the bank and that it would review any application the company would submit. He said the bank intends to increase lending to small businesses to $10-billion in 2010 from $6-billion last year.

Large companies, while still facing challenging economic conditions, don't have anywhere near the same issues with financing.

On Feb. 4, for instance, Kraft sold $9.5-billion in bonds to finance its acquisition of Cadbury - the largest non-financial bond issue in almost a year. On the same day, Berkshire Hathaway, run by Warren Buffett, tapped investors for $8-billion. Investors clamoured to buy both types of bonds, with demand outstripping supply by a factor of three or more.

"You can see that there's still a lot of money to put to work in the corporate bond market," says Anne Daley, a managing director at Barclays Capital in New York who works on the team that oversees the sale of new corporate bonds.

The radically different experience of small and large U.S. businesses can be traced to the health of the banking system. "In the middle of last year, capital markets healed pretty dramatically and funding opened up for big corporations," says Michael Feroli, chief U.S. economist at JPMorgan Chase.

"At the same time, you saw banks continue to fail on a pretty regular basis every Friday night."

When the banking system is in rough shape, he noted, small businesses feel more of the pain. Banks traditionally consider such businesses more of a gamble.

Last year, the government began tracking the behaviour of the largest recipients of federal bailout money.

According to data released last month, these banks reduced their small-business loan balances by $12.5-billion, a drop of 4.6 per cent, between April and November last year, and reduced new monthly loans to these firms by 7.6 per cent. Wells Fargo and Bank of America, two of the biggest lenders to small businesses, decreased such loan balances by 4.4 per cent and 6.2 per cent, respectively, during that period.

The reluctance of banks to lend to small businesses is a source of opportunity for alternative lenders. While such financing is considerably more expensive than a bank loan, it can be a lifeline, since it allows small businesses to borrow against their accounts receivable.

Mitch Jacobs, chief executive officer of On Deck Capital, a New York-based alternative lender to small businesses, says that his discussions with banks indicate that they're declining about two-thirds of the loan applications from such firms.

"They [small businesses] are facing an exacerbated version of the historical challenge of accessing credit for ongoing operations," Mr. Jacobs says.

That opens up space for his company, which has served about 2,000 customers since it began lending two years ago. Typically his clients are businesses with annual revenues of less than $3-million, which have tried - and failed - to secure a bank loan. Often, says Mr. Jacobs, their businesses remain healthy but their personal credit scores have suffered, which can disqualify them from consideration by a bank.

Some small businesses who would like financing but don't require it say they're inclined to wait until the economic picture becomes clearer. Matt Ahart, CEO of Sunnygram, a two-year-old startup in California, says he's being very conservative with spending and holding off hiring. He's had discussions with venture capital firms, but feels the terms are unfavourable.

"My impression is that banks are guarding their capital very closely," Mr. Ahart says. "Because of what I've heard, I haven't even bothered to go into a bank."

*****

Size matters

Twenty of the biggest banks in the United States have decreased lending to small businesses...

............TOTAL OF AVERAGE LOAN BALANCES.....NEW LOANS

April 2009..............................$269....................................$7.4

November 2009....................$257....................................$6.9

...while large companies continue to issue bonds. The first week in February saw a bumper crop:

February 4.....Kraft Foods Inc..................$9.5

February 4.....Berkshire Hathaway Inc....$8

February 2.....Williams Partners LP........$3.5

February 3.....PNC Funding Corp...........$2

February 1.....Procter & Gamble Co.......$1.25

All figures in billions (U.S.)

THE GLOBE AND MAIL

SOURCE: U.S. TREASURY DEPARTMENT; DEALOGIC