SMALL BUSINESS INVESTMENT COMPANIES
Thirty-five years ago an entrepreneur looking for the capital to launch
a small business had very few sources to turn to. There was no
institutional resource to back up promising but untried ideas. Again
and again, businesses with great potential for innovation failed - or
never got off the ground.
To help solve this problem, Congress created in 1958, The Small
Business Investment Company (SBIC) program. SBICs, licensed by the
Small Business Administration, are privately organized and privately
managed investment firms. They are participants in a vital partnership
between government and the private sector economy. With their own
capital and with funds borrowed at favorable rates through the Federal
Government, SBICs provide venture capital to small independent
businesses, both new and already established. Substantially all SBICs
are profit-motivated businesses. A major incentive for SBICs to invest
in small businesses is the chance to share in the success of the small
business if it grows and prospers.
WHO BENEFITS FROM THE SBIC PROGRAM?
Small businesses qualifying for assistance from the SBIC program are
able to receive equity capital, long-term loans, and expert management
assistance. Venture capitalists participating in the SBIC program can
supplement their own private investment capital with funds borrowed at
favorable rates through the federal government. Most important, the
U.S. taxpayer benefits. Tax revenue generated each year from successful
SBIC investments more than covers the cost of the program. The SBIC
program also provides the taxpayer with more job opportunities since
SBIC-financed small businesses are proven job creators.
PRINCIPAL ADVANTAGES TO THE SBIC
An SBIC begins with people who have venture capital expertise and
capital, and who want to form a venture capital investment company. By
law, an SBIC can be organized in any state, as either a corporation or
a limited partnership. Most SBICs are owned by relatively small groups
of local investors. Many, however, are owned by commercial banks. Some
SBICs are corporations with publicly traded stock, and some are
subsidiaries of corporations.
An SBIC in good standing, with a demonstrated need for funds, may
receive leverage (borrowed funds) equal to 300 percent of its private
capital. However, in no event may any SBIC draw down leverage in excess
of $90.0 million.
To obtain leverage, regular SBICs issue their debentures which are
guaranteed by SBA. Pools of these SBA guaranteed debentures are sold to
investors through a public offering. Under current procedures, the
debentures have a term of five or ten years. The rate of interest on
the debenture is determined by market conditions at the time of the
SBICs can make long-term loans to small business concerns in order to
provide them with funds needed for their sound financing, growth,
modernization, and expansion.
An SBIC may provide loans independently, or in cooperation with other
public or private lenders. SBIC loans to small business concerns may be
secured, and should be of reasonably sound value. Such a loan may have
a maturity of no more than 20 years, although under certain conditions
the SBIC may renew or extend a loan's maturity for up to 10 years.
An SBIC may elect to loan money to a small business concern in the form
of debt securities - loans for which the small business concern issues
a security, which may be convertible into or have rights to purchase
equity in the small business concern (often called a "warrant"). These
securities may also have special amortization and subordination terms.
An SBIC may provide equity capital to small business concerns, and may
do so by purchasing the small business concern's equity securities. The
SBIC may not, however, become a general partner in any unincorporated
small business concern, or otherwise become liable for the general
obligations of an unincorporated concern.
SIZES AND TYPES OF BUSINESSES
SBICs may invest only in qualifying small business concerns or, if the
SBIC has temporary idle funds, certain short term instruments (Federal
Government securities, insured S&L deposits, CDs, and demand
deposits). SBICs may not invest in the following: other SBICs, finance
and investment companies or finance-type leasing companies, unimproved
real estate, companies with less than one-half of their assets and
operations in the United States, passive or casual businesses (those
not engaged in a regular and continuous business operation), or
companies which will use the proceeds to acquire farm land.
An SBIC is not permitted to control, either directly or indirectly, any
small business on a permanent basis. Nor may it control a small
business in participation with another SBIC, or its associates. In
cases of inordinately high risk, the SBA may allow an SBIC to assume
temporary control in order to protect its investment. But in those
cases the SBIC and the small concern must have an SBA- approved plan of
divestiture in effect.
Without written SBA approval an SBIC may invest no more than 20 percent
of its private capital in securities, commitments, and guarantees for
any one small concern.
PROHIBITED REAL ESTATE INVESTMENTS
An SBIC may not invest in farm land, unimproved land, cemetery
subdividers or developers, or any small concerns classified under Major
Group 65 (Real Estate) of the SIC Manual, with the exception of
subdividers and developers, title abstract companies, real estate
agents, brokers, and managers. Investment in real estate related
businesses is limited to one third of the SBIC's portfolio, and
combined investment in real estate related activities (building
contractors, hotels, and lodging places, etc.) is limited to two thirds
of an SBIC's portfolio investments.
PROHIBITED RELENDING, REINVESTING
SBICs may not provide funds for a small concern whose primary business
activity involves directly or indirectly providing funds to others,
purchasing debt obligations, factoring, or leasing equipment on a long-
term basis with no provision for maintenance or repair. However, SBICs
may finance Disadvantaged Concerns engaged in relending or reinvesting
activities (except agricultural credit companies, and those banking and
savings and loan institutions not insured by agencies of the Federal
PROCEEDS OF FINANCING
In general, investment funds used to purchase securities must go
directly to the small business concern issuing the securities. They
should not be used to purchase already outstanding securities such as
those on a stock exchange, unless such a purchase is necessary to
insure the sound financing of a small concern, or when the securities
will be used to finance a change of ownership. The purchase of publicly
offered small business securities through an underwriter is permitted
as long as the proceeds of the purchase will go to the issuing company.
MINIMUM PERIOD OF FINANCING
Loans made to and debt securities purchased from small concerns should
have minimum terms of one year. The small concern should have the right
to prepay a loan or debt security with a reasonable penalty where