In the last few weeks, hedge funds became notorious as developments on criminal cases of Raj Rajaratnam and Rajat Gupta unfold. Questions on ethics, oversight, transparency, and moral bankruptcy were hurled towards the industry. Some called it the bastion of thievery.
For others, it’s a stronghold of deception and fraud. Unknown to most of us, hedge funds, were once and still are, a saving grace for some small businesses.
In 2008, when Jim Gee, president of Trinity Communications, a small cable- TV operator in Marion County in South Pittsburgh, Tennessee, could not find additional funds for expansion, hedge fund provided his company’s much- needed capital. Genesis Merchant Partners, an asset-based lending fund, loaned him $500 thousand with interest rate of around 14 percent payable in 15 months. Gee said the money helped Trinity to increase its subscribers and would not hesitate to apply for another loan of the same amount and terms.
Gee was just one of the growing number of small business owners who resorted to hedge fund after failed attempts to secure loans from traditional lenders and found themselves at a dead-end. Let’s face it, with the economy still on a slump, too many companies, big and small, public and private, are competing for scarce funds. Hedge funds stepped in, offered loans and filled the gaps.
In the July 2011 Federal Reserve Board Survey on the lending practices of 51 domestic banks in the country, only 4 or 7.8 percent reported easing loans to smaller firms or those with annual sales of less than $50 million. Without bonds, commercial paper, and other debt securities to issue, small businesses found smaller community banks-like presence and finance companies in hedge funds.
According to Reuters, BarclayHedge and TrimTabs Investment Research reported that hedge funds raked in $51 billion in the first eight months of 2011. This happened while scandals associated with the prominent managers in the industry filed up. With money beating the failing markets, hedge fund loans became a viable option for small businesses especially for those who lacked credit ratings and with immediate needs.
Hedge funds, once considered a last-resort finance option, have become a popular choice for distressed small businesses. Distressed small businesses are those, which don't have good credit ratings to back them up and, sometimes, time to pursue the traditional through-bank capital lending. Because hedge funds value collateral more than the merit of a small business’s credit, they created a magnet field, which attracted nowhere-to-go small businesses. Saleable assets like equipment, inventory and accounts-receivable were enough to guarantee an approved loan.
This is not to say that hedge funds are almighty, merciful alternative in providing loans to small businesses. They have their share of danger and unpleasantness. They charge relatively higher interest rate than banks. The uncertainty that they may exploit information gained as lenders has its basis. This article is not intended to glorify their greatness but to acknowledge that in an economy with staled growth and high unemployment rate, some distressed small businesses found solace from hedge funds, the not-at-all devilish industry.
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