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By: Thinking Capital CEO Stéphane Marceau
I am the CEO of Thinking Capital, the largest non-bank digital credit provider to Canadian small businesses. Our company serves the “little guys” of the Canadian economy — the restaurants, small retail shops, beauty salons and independent contractors that make our communities tick. We’re witnessing first-hand the struggles of Canadian small business owners through this crisis. Their resilience and determination to survive inspires us every day. But we know that many will not make it through to the other side. Those that do will undoubtedly face a new set of challenges, and will need to figure out how to bounce back in a changed world. How will they navigate?
Most textbook economic theories do not apply here, so we decided to take a first principle approach and start from a few simple questions:
What does the world look like for the small business owner in Shawinigan (or Kelowna, or Mississauga, or Lethbridge) as she begins to sweep the dusty floors of her shuttered business? What challenges will she face then, and what difficult decisions will need to be made? What support will she require at that time, and who will provide it?
Niels Bohr, the famous quantum physicist said that “prediction is very difficult, especially if it is about the future”. Recognizing the risk of the exercise, we laid out our predictions in order to follow Gretzky’s prescription “to skate to where the puck is going”, and to prepare ourselves to be effective on the other side of the crisis, in a forever changed landscape.
In summary, we see five realities that will shape the post-COVID small business landscape in Canada:
- Social emergence will be gradual, and small businesses will need to grapple with reformulating business models with lower revenue for at least one year
- Most small business owners will need to contend with a consumer base with considerably less purchasing power, and a case of depressed consumption across the board even after the reopening
- Changes in consumer behaviour and altered supply chains will create disruptive pressures and opportunities for tomorrow’s small businesses, and a new wave of start-ups and transformed businesses will emerge to address new market paradigms
- Many small businesses that survive the crisis will face a daunting prospect of digging themselves out of a mountain of crisis-accrued liabilities, and for many bankruptcy may be the only option
- Increased government intervention in the small business economy will be necessary for some time
Small Business Through COVID
Our company’s internal data suggests small business payment terminal sales are off 60% from a baseline week in early February. Already, one-third of small businesses in Canada are unsure if they will ever be able to reopen, according to the Canadian Federation for Independent Business.
It’s hard to overstate the calamitous impact such statistics forewarn for the Canadian economy. Canada’s 1.2 million small businesses generate more than 40% of private sector gross domestic product. They employ 7 out of 10 people in the private sector workforce, according to Statistics Canada. We’re already seeing the staggering early effects of their shuttering, with millions of unemployment applications filed since the onset of the COVID-19 crisis.
Very appropriately, the government has enacted stimulus measures to buoy the small business economy in the near term, highlighted by the Canada Emergency Wage Subsidy, the Business Credit Availability Program, and the Canada Emergency Business Account. These programs are extending necessary payroll relief, and ensuring debt capital is available to bridge small businesses through an indeterminate period of full or partial closure. They are among the best tools available, but the toolkit is incomplete.
The magic bullet to complete the arsenal is likely months or years out, and will come from the medical and research community, not the economic one. Consensus has not yet been reached as to the efficacy of potential therapeutics, and the best estimates for the timing of widescale vaccine distribution is sometime in late 2021.
In the interim, and assuming a gradual emergence from near-complete social lockdown within the next 3–4 months, governments worldwide will attempt to walk a delicate line. As outlined by Tomas Pueyo in his widely read Medium article “Coronavirus: The Hammer and the Dance”, governments will likely attempt to optimize a formula of allowable societal engagement that points the viral trajectory downwards, but the re-opening of the economy will not bring linear growth; rather it will be characterized by ups and downs for quite some time.
1. Gradual Emergence
To draw from Mark Twain, we believe reports of the restaurant industry’s death have been greatly exaggerated. Restaurants in various forms have existed for centuries, and we can count on the gregarious nature of the human spirit to draw us back together to break bread. Delivery will simply be no long-term substitute.
However, it will take time to get back to a new normal.
While the order is challenging to predict, one could expect a gradual turning-back-on of industries and activities, balancing both their social and economic importance, and propensity to propagate infection.
We anticipate in chronological order:
i. Construction, trades, and other industries critical to societies’ function begin to reopen in June
ii. Small gatherings permitted in June or July
iii. Restaurants reopen on a controlled and limited basis in July or August
iv. White-collar workplaces start bringing back a portion of the furloughed employees in July or August
v. Retail slowly returns through the second half of 2020
vi. Schools reopen in September
vii. Clubs, sports, leisure and other high-density activities begin to reopen in 2021
viii. International travel begins to ramp back up by mid 2021
Foodservice establishments, like many other small businesses, will need to operate in world where consumers only slowly regain trust in the safety of their establishments. Businesses will likely be regulated to lower patron density levels, if consumer demand doesn’t effectuate that naturally. Every business will need to re-evaluate their financial viability with lower run-rate revenue, and adjust their cost structures accordingly.
2. Depressed Consumption
Adding further challenge to small businesses across most economic sectors, is that lingering economic and social effects will continue to depress business activity even after the reopening.
Consumer spending is likely to remain muted for some time. According to a recent McKinsey survey, 44% of US consumers reported they were delaying discretionary purchases given the uncertain economic outlook. Wherever the unemployment rate ultimately peaks, it will likely hover at elevated levels long after the pandemic is suppressed. For many Canadian workers, the businesses that employed them will no longer exist. Businesses that do survive will likely be hesitant to staff back up immediately, as they will be short on cash flow and economic confidence, and fearful of future social distancing measures.
Many consumers, even if and when their jobs do come back, will have several months of deferred rent and mortgage payments to catch up on. It is fair to assume discretionary spending will continue to be significantly curtailed, as cash-strapped consumers prioritize essential purchases. Businesses that trade in discretionary goods and services, such as premium retailers, will need to contend with a customer base with considerably less purchasing power.
3. Behavioural and Structural Changes
Retail, an industry facing existential threat before COVID-19, will be further hampered by changes in consumer behaviour catalyzed by the crisis. According to the McKinsey survey, 15% of consumers in the US have begun turning to e-commerce for staple purchases like groceries. While some consumers may return to in-store purchasing once the crisis abates, for others the switch to e-commerce will stick, and going to the grocery store will become a thing of the past.
Some businesses, like those built on e-commerce or who manage to build a strong online presence through the COVID lockdown, will likely ride considerable tailwinds out of the crisis. Restaurants with strong delivery distribution will likewise benefit from a society that, at least temporarily, continues to prefer to eat at home.
The collective realization that our global supply chains are more fragile than we thought will likely drive a wave of supply chain diversification. This will mean the repatriation of certain manufacturing operations, especially those of critical goods. The government-owned Development Bank of Japan has already announced plans to subsidize relocation costs of companies that bring production facilities back to the country. The propagation of this trend in Canada will create considerable opportunity for entrepreneurial small and medium sized businesses that are able to capitalize on a new desire to supply local.
4. Overwhelming Liability Burden
Despite new windows of opportunity being created, this crisis will maim far more businesses than it buoys.
Small businesses that do survive through the end of the crisis, and manage to re-establish a viable revenue model, will still need to contend with the havoc the crisis has wrought on their balance sheets. Many small businesses will have entered the crisis with high levels of both secured and unsecured debt. Existing leverage is not considered in the eligibility criteria for the Canada Emergency Business Account, meaning many small businesses will add up to $40,000 to an already levered balance sheet.
Businesses that have been granted rent deferments will need to catch up on those. Many businesses will have delayed tax remittances to the Canada Revenue Agency. Many others will be months late with suppliers. When government relief programs become exhausted, small businesses will need to look elsewhere for capital to consolidate their liabilities and support their recovery. If the 2008–09 financial crisis is any indication, banks will have heavily retrenched from the higher-risk small business sector. The FinTech lending industry, which was born out the vacuum created by that retrenchment, will have also been battered by the crisis. Many alternative lenders will no longer exist, and the supply of private capital to small business will be significantly curtailed.
Facing the daunting prospect of digging themselves out from such a predicament, many small businesses will question whether bankruptcy is a preferable path. Many will choose to fold, and restart. While many entrepreneurs will be shaken by their experience through this crisis, and apprehensive about the prospect of starting anew, tit is safe to assume that the entrepreneurial spirit will ultimately win out and the majority of small business owners will take their chances versus taking a paycheque. It is also safe to assume that large employers will not be hiring en masse. As a result, we will likely see a large upswing in entrepreneurial activity in late 2020 and into 2021.
Deep Government Intervention Becomes the New Normal
This crisis was not of small businesses’ making, but they are among its victims. Ongoing government intervention will be required now and in the future to buoy the small business economy. Without it, we worry about what our communities will look like. Large global corporates like Walmart, Costco, McDonalds and Starbucks have resilient balance sheets and supply chains. They’ll weather this storm, and continue to gain at small business’ expense, colonizing our street corners and communities.
We believe the following actions and support will be required to protect Canadian small businesses and the communities they serve:
Effective Execution of Support Programs: Small businesses will first and foremost need rapid access to the programs that have been announced to support them thus far. This means a swift rollout of the Government’s Emergency Wage Subsidy, and effective and rapid distribution of government-backed lending capital through all available channels. The speed of distribution is critical. Small businesses will also need payment deferments from all suppliers that can afford to extend terms, and government-sponsored rent relief.
Debt Relief: The Canada Emergency Business Account program includes $10,000 forgiveness of loan principal if a small business is able to pay back the first $30,000 by December 31, 2022. This will almost certainly be inadequate. The liability to repay Government relief capital extended to bridge small businesses through a Government-mandated closure must not be the difference between small business success and failure. Once new originations through the program cease, the Government may well announce full loan forgiveness.
For private debt and other crisis-accrued obligations like rent deferments and overdue supplier invoices, small businesses will need a path to deleverage. They will need tools to consolidate their liabilities, and extended-term payment plans, tied to their sales recovery, to gradually ascend above water.
Demand Stimulus: Small businesses will need to solve for financial viability in a world with fewer customers initially, whose purchasing power is depressed. This will mean further government stimulus to accelerate demand. The Chinese government for example has been issuing digital coupons to entice consumers to shop again. Private sector solutions should also be utilized, such as tools at the micro level to extend consumer payment terms and enhance checkout conversion.
Access to Resources to Support Recovery: Once the immediate crisis abates, small businesses will need access to capital to rebuild their businesses — or to build new ones. They’ll need to restock on inventory, hire back employees, and invest to draw in customers.
Both businesses that avoid bankruptcy, and those that don’t, will need tools to rebuild their credit profiles. Credit metrics themselves like FICO and Beacon score, will need to be revisited or even re-built. How can we judge propensity to meet payment obligations after these unprecedented, never-before-seen circumstances based on steady state credit models?
Banks, averse to small business credit risk in strong economic conditions, and certainly so in choppy ones, will likely retrench. This means the government will need to be prepared to continue providing capital to small businesses directly, or work with non-bank, digitally-powered private sector lenders like Thinking Capital with the expertise and risk appetite to extend credit into the small business economy.
Small Business After COVID
We are learning in real time about this novel virus and the disease it causes. The economic impact of our attempts to contain it is also gradually becoming clearer.
As society and government act rapidly to contain the spread of the virus, and mitigate short term economic damage, we must also look to a future beyond COVID. We must plan now for the long-term impact this crisis will have on our small businesses, and ergo our communities.
We must develop and implement the support, relief, tools and infrastructure that our local entrepreneurs will need to emerge from the ashes of this crisis to thrive once again.
How FinTech Can Help
Companies like Thinking Capital will have a crucial role to play in supporting small businesses through this crisis, and helping them rebuild on the other side.
We’ve offered our services to the government and banks to help accelerate the deployment of emergency relief capital. We continue to believe no one can get rescue funds into the hands of the business owners that desperately need it faster and more effectively than we can.
The next wave of start-ups and transformed businesses that find ways to capitalize on the opportunities emerging out of this crisis will also need resources and tools to launch and grow their operations. They’ll likewise leverage forward-thinking FinTech platforms to provide them with the firepower they need.
Small businesses of tomorrow will need to contend with a changed world, with different economic and behavioural paradigms than small businesses of yesterday. They’ll need to move quickly to adjust and capitalize, and they’ll need financial partners that can move with them. Legacy ways of underwriting and lending won’t work. The continued growth of the FinTech industry will inevitably accompany this shifting landscape.
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