Two trends uncovered in PayNet’s Canadian Small Business Lending Index may be cause for concern: the first, loan origination remains weak; the second, short-term delinquencies among small business borrowers have risen.
PayNet's data, which analyzed small business borrowing activity in February, found only a slight increase in SMB investment, but the seventh month in a row of loan origination decreases. The February Index also recorded the largest increase in loan repayment delinquencies since April of 2016, as loans 30 days or more past due increased 8 basis points from 0.81% in January to 0.89% in February (though PayNet noted that delinquencies were down from 1.11 percent compared to this time last year, the eleventh month in a row of delinquency decreases).
The conclusion offered by PayNet president Bill Phelan is that small businesses are facing heightened financial pressure, though it is unclear whether February's performance is merely a correction of a borrowing boom from previous months, or the sign of darker clouds to come.
Phelan spoke with PYMNTS to shed a bit more light on the latest PayNet report, emphasizing that small businesses in Canada are, indeed, slowing their pace.
“Optimism is probably tempered right now. I think small businesses are hunkering down a bit,” Phelan said, pointing to increased borrowing activity in the first half of 2017. “They're probably taking a breather now, is the best way to put it. They ran a fast race the first half of last year, as well as in 2016, so it’s time to catch their breath and recuperate a bit.”
This is compared to PayNet’s U.S. Small Business Lending Index, which recorded its fifth month in a row of SMB borrowing growth and posted its second-best Index reading in history for February.
The slight downturn comes at a time of broader market volatility as the U.K. prepares to exit the European Union and as trade tensions between the U.S. and China escalate. Phelan said it is too premature to deduce that these geopolitical factors had any significant impact on the February Index’s reading, but did warn that Canada’s position in the market means that its SMBs are at least indirectly exposed to these pressures.
“Private companies are captives of their global markets,” he said. “International trade is being done by the bigger companies, particularly large energy companies, and small businesses tend to be operating in their local markets. But they might trade or interface with big international companies. [SMBs] really aren't impacted directly by global markets, but there will be knock-on, secondary effects.”
Tariffs and other trade issues would certainly have a more immediate impact on Canadian small firms, he said. But at present, these geopolitical risks – particularly trade disputes – don't seem to have had a major impact on Canada’s SMB community.
“If trade disputes turn into trade wars, then you could see a scenario where it would be bad for every business outright,” Phelan added.
So far, the outlook on trade remains strong among Canada’s corporate community. The latest analysis from HSBC found that about half of executives from Canada, the U.S. and Mexico remain optimistic about North American Fair Trade Agreement (NAFTA) renegotiations, and that only 13 percent of Canadian firms expect NAFTA to ultimately have a negative impact on their businesses.
Canadian companies are less optimistic, however, about the Comprehensive Economic Trade Agreement (CETA) between Canada and Europe), and Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) trade agreements. Overall, 70 percent of Canadian corporates told HSBC that they expect cross-border trade volumes to increase in the coming year, with the U.S. and Mexico as traders’ biggest targets.
At home, other factors have introduced uncertainty in the market, particularly when it comes to the volatility of the Canadian dollar. Heavily reliant on the strength of Canada’s oil industry, the Canadian dollar has struggled with ups and downs in recent months. According to the D.C. Howe Institute, the Canadian dollar’s connection to commodity exports like oil means its volatility isn’t surprising, with some analysts expecting the currency to regain its strength this year.
Mark McCormick, North American head of FX strategy for TD Securities, told The Star in February that global equity market volatility, interest rate hikes by the Bank of Canada and even U.S. jobs data are all affecting the currency, but that strong economic performance in the country is a good sign.
“If we start to see equity markets selling off and volatility moving higher, the way that global capital flows move is there’s usually repatriation of Japanese investors having overseas investments where they bring that money home, and U.S. investors also tend to bring their money home,” he told the publication.
For small businesses, these market pressures have certainty introduced challenges, but PayNet's Phelan said entrepreneurs have proven their strength.
“We've been amazed at the quality of Canadian businesses as they go through ups and downs,” he said. “The trade issue, oil prices, the Canadian dollar rising and falling – what’s really been astounding to me is the fact that businesses have been able to maintain strong financial health through that time.”
He added that despite the slight uptick in delinquencies, levels remain at near-all-time lows.
“It's fairly healthy, year-over-year,” said Phelan, “particularly in certain areas like manufacturing, wholesale and professional services. It has risen on a year-over-year basis, but that’s after these repeated decreases in the last year-and-a-half.
“Canadian businesses have focused on financial health, making sure balance sheets and PNLs [profits and losses] are in good shape,” he continued, adding that PayNet's latest analysis shouldn’t alarm investors or entrepreneurs just yet.
“This tells me it’s more of a catch-your-breath economic issue, rather than a switch into a contraction or even a recession," said Phelan. “Financial health remains very strong.”
He added that despite the positive outlook, the uptick in delinquencies does indeed hint at deeper financial pressures on small businesses, but that the data offered by the Index provides entrepreneurs with greater insight into their industry performance compared to peers – and that may even offer them greater leverage when negotiating deals with lenders.
“Small businesses can benchmark and see how they stack up with competitors,” he said of SMBs’ use of the Index. “If you're going to your bank and asking for capital, and you see that your financial health is better than the average in the marketplace, you may be able to negotiate better terms.”