Public Works

By 1997, the former car dealership that housed Sandy and Tom Hood's commercial door and hardware distribution business was bulging at the seams. Besides being cramped, it wasn't their ideal site. "We were growing and needed a building that was conducive to business," recalls Sandy, who purchased the company with husband Tom, 49, in 1989. "And our rent was going up. I thought 'For the amount we pay, it seems silly that we can't own.'"

And so began the search for commercial property on which to build a custom facility for their less-than-$4-million firm, HC HoodCo Inc. in Bellefonte, Pennsylvania. Sandy, 49, recalls that finding a suitable location was only half the battle: "The next question was, Where were we going to get the funding?"

From an unexpected source, as it turned out. While visiting the local chamber in 1997, the Hoods learned that the state of Pennsylvania offered commercial loans for job growth. They were surprised not only that financing was geared to established businesses rather than startups, but also that the state's interest rates rivaled what banks offered at the time.

After an extensive search for a new commercial site, the couple chose an industrial park in Bellefonte. Upon learning of a successful local businessman who was awarded a state loan, the Hoods investigated their options. They qualified for a loan from Pennsylvania's Small Business First Fund, which bankrolled half of the $400,000 project, requiring the couple to find a private lender to finance the rest. There was one condition: For every $25,000 in state funds they received, the Hoods had to hire one employee. Fortunately, they were planning to expand their employee roster anyway.

Under the Radar

While most states and scores of localities have loan programs to promote business development, many entrepreneurs haven't heard of them. Even if they're aware of public funding programs, they often have misconceptions about the types of firms that qualify.

One common myth is that the credit initiatives are primarily for risky ventures that aren't otherwise loan-worthy. "[These programs] are looking for businesses with proven track records," says Peter Rassel, business consultant at the Georgia State University Small Business Development Center in Atlanta. "They're willing to help them expand their sales, which in turn will help expand the tax base as well as increase employment. Often, the lower-interest loans and tax credits are used in areas where there is high unemployment and the infrastructure has deteriorated. They're trying to get companies to be entrepreneurial pioneers."

For business borrowers, public funding has a number of benefits. Not only are the low-interest loans cheaper, but public funding programs also help make some loan requests more palatable to private lenders, who frequently have to put up matching funds. "Often, these loans can be considered equity participation because they'll subordinate the debt to the private lender, which will encourage the lender to lend more," Rassel explains. "It will be a much larger transaction."

Business banker Myra Sletson agrees that public programs can boost borrowing power: "These companies are often growing very quickly; and when they look at taking on the additional debt they need to buy equipment, for working capital, to build buildings, they're on the cusp of what the bank can do," says Sletson, senior credit administrator for Omega Financial Corp. in State College, Pennsylvania. "The public funds, at least in Pennsylvania, are structured to enable the bank to make a loan that they might not be able to make without the public debt behind them by enhancing the loan-to-value, reducing the risk to [the bank], and then passing on some benefits [to the borrower] in the form of lower interest rates, which help cash-flow issues."

Even so, many entrepreneurs don't pursue the strategy because of difficulty locating funding sources, which can include states, municipalities and nonprofit groups that dole out public funds. However, entrepreneurs can find them with a well-placed phone call. State economic agencies commonly provide referrals and assist businesses with loan applications. Local business groups and trade associations are also usually aware of funding initiatives.

Read the Fine Print

Locating loans, however, is only part of the challenge; borrowers also have to assess whether a particular program meets their needs. "Some won't finance inventory, only equipment and fixed assets," Rassel stresses. "You have to look at the language of what the program is about."

Or the business may have to remain in the state for a period of time, potentially impeding growth plans. "A number of conditions should be reviewed based on the strategic plan of the company to make sure the loan is good for them," says Donna Holmes, director of the Penn State Small Business Development Center.

Meanwhile, it's not uncommon for programs to restrict how borrowers can spend loan proceeds. For instance, the federal government's Community Development Block Grants, which are dispensed by local communities for economic growth, require that contractors hired by the borrower pay the prevailing wage rate for that location. Funding recipients, in turn, must submit supporting documentation. "If you can't do it," Rassel says, "that part of the loan package will fall out. The paperwork can be tremendous."

Time Is Money

Bear in mind, the process leading up to financing is generally 30 to 60 days longer and potentially more complicated with public funding than with regular credit. After filing in March, the Hoods waited for financing until August.

One reason for delays, says Holmes, is that public programs often customize loan documents, while banks have a more standardized process. "And a lot of times, there are review committees, which typically meet at a certain time in the month. You have to look at that cycle and determine what time in the month they're going to look at [your request]," she advises. "If you miss that time, you have to wait possibly another month before that committee will get together again, as compared to a bank, where somebody is there every day."

Public funding requires patience and careful planning, but the savings can make it well worth the effort. "These are programs that we generally use for decent credits because they get a rate advantage and save money on down payments," says Ronald Haring, senior vice president and regional development officer of Omega Bank. "Whereas banks would want 25 percent down, you can do these programs and take 10 percent."

Crystal Detamore-Rodman is a Charlottesville, Virginia, writer who covers the small-business finance market.

This story appears in the June 2004 issue of Entrepreneur. Subscribe »