the financing choices of young firms · 03-11-2012 · business credit cards business credit line...

The Financing Choices of Young Firms

David T. Robinson

Duke University

National Bureau of Economic Research

Institute for Financial Research, Stockholm

Brookings (Robinson) Promoting Innovative Growth 1 / 20

Myths from the Classroom

OpaqueStartups

-Debt is

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Reliance onVenture Capital

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Myths from the Classroom

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A more accurate picture?

VC Informal Capital

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Formal BankLending

Startup Capital


Overview

Evidence on the role of debt in funding startups

Distinct from the role of banks in small business activity

The importance of housing as a source of collateral

Policy conclusions


The Role of Debt in Startups

The Kauffman Firm SurveyOverview

Multi-year panel on roughly 5,000 firms that were formed in 2004. ‘Formation’means that for the first time in 2004, they:

Paid state unemployment taxes, or FICA tax;

Established a legal status for the business or used a tax id number;

Used a Schedule C on a personal tax return.

This generates a heterogeneous panel in terms of owner and businesscharacteristics at founding

Highly detailed data on business relationships, financial structure, founderbackground information.



Kauffman Firm SurveyKey Survey Statistics

Founder Demographics

Overwhelmingly white, non-hispanic, males

Median age is 35-44; over 13 are over 45

The median respondent has > 10 yrs. industry experience

More than 40% of respondents have had at least one prior startup

About 12 have at least a Bachelor’s degree

Operating Statistics

About 13 are pre-revenue; but around 1

6 have revenues that exceed $100K



Kauffman Firm Survey 2004All Firms

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

All Firms High Credit Low Credit

Owner Equity Owner Debt Insider Equity

Insider Debt Outsider Equity Outsider Debt



Kauffman Firm Survey 2004High Tech Firms

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

All Hi-tech High Credit Low Credit

Owner Equity Owner Debt Insider Equity

Insider Debt Outsider Equity Outsider Debt



A Closer Look at Debt

39%

30%

8%

10%

7%6%

Personal loans for business Business bank loans

Business Credit Cards Business Credit Line

Non-bank loans Other loans



Kauffman Firm Survey 2004The Difference: Total Capital

0

50000

100000

150000

200000

250000

300000

All Firms High

Credit

Low

Credit

All Hi-

tech

High

Credit

Low

Credit



What about Garage businesses?

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Non Home Pre Pre Survived Closed

Employer Based Revenue Profits thru 2006 by 2006

Outside Debt

Outside Equity

Insider Debt

Insider Equity

Owner Debt

Owner Equity



What about Garage businesses?Garage businesses vary by size

0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

Non Home

Pre Pre

Survived

Closed

Employer Based

Revenue Profits

thru 2006

by 2006

17,269 20,035 31,201 35,433

31,784 31,609

2,774 4,731

16,268

21,530

18,753 8,841

19,353

26,960

44,839

54,536

50,087

42,208 Outside Debt

Outside Equity

Insider Debt

Insider Equity

Owner Debt

Owner Equity



What about Equity-backed Businesses?

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Angel VC Corporate Govt-‐Other

Outside Debt

Inside Debt

Owner Debt

Outside Equity

Inside Equity

Owner Equity



What about Equity-backed Businesses?Again, Size Varies

0

500,000

1,000,000

1,500,000

2,000,000

2,500,000

Angel VC

Corporate

Govt-‐Other

328,999

1,499,644

515,051

171,145

164,891

628,398

75,156

96,030

Outside Debt

Inside Debt

Owner Debt

Outside Equity

Inside Equity

Owner Equity



To summarize

Startups access bank debt even at their earliest stages of life.

This is an extremely robust fact:

Robust across firm types.

Robust over time: debt continues to be the primary source of fundingthroughout the first four years of the firm’s life.

Complementarity of debt/equity demonstrates that financing constraints arepresent.

Variation in firm characteristics has a first order effect on startup size, but only asecond order effect on the mix of debt/equity.

Evidence that the variation in supply of debt is partly responsible for findings.


Housing as a Source of Collateral

Capital Structure and Housing

Access to outside debt is greater when homes are more pledgable as collateral.

(1) (2) (3) (4) (5) (6) (7)

Home supply elasticity 0.0163*** 0.0156*** 0.0153*** 0.0149** 0.0150*** 0.0163***(0.0058) (0.0058) (0.0059) (0.0058) (0.0058) (0.0058)

State bankruptcy exemption -1.92 -2.52*(1.33) (1.48)

Industry dummies No Yes No Yes Yes Yes Yes

Owner characteristics No No Yes Yes Yes Yes Yes

Credit score dummies No No No No No Yes Yes

Observations 2,564 2,564 2,466 2,466 3,389 2,466 2,466R2 0.004 0.029 0.040 0.058 0.048 0.061 0.062



The Home Equity / Entrepreneurship ChannelAdelino, Schoar and Severino, 2012

Between 2002-2007, areas with strong exogenous home price growth saw strongeremployment growth

This employment growth was strongest among the smallest firms

Effect for 1-4 employee firms is ∼ 3x that of > 20-person firms

And among firms with lower capital requirements

Effect for small firms: 3 times larger in low capital-intensive sectors than highintensive ones

There is generally no housing effect on “large" establishments in capitalintensive industries



The Small Business Employment MythHaltiwanger, Jarmin, Miranda, 2012

Controlling for age, there is no systematic relationship between firm size andemployment

“Small firms" are not job creators.

Young firms are job creators.

They typically start small.

The good ones grow, the bad ones die, destroying jobs.

On net, creation outweighs destruction.


Policy Implications

What Do These Facts Say About Policy?

To me, they point to three policy challenges associated with promotingentrepreneurship:

We need to be careful to decouple policy towards business starts from policytowards small business.

We need to embrace the fact that promoting innovative growth almost surelymeans rethinking the way we provide access to debt.

We need to understand that the housing crisis is also an entrepreneurship crisis.


Policy Implications

In Conclusion

Most “small business employment growth" is actually “young businessemployment growth"

Startups access bank debt even at their earliest stages of life.

Variation in firm characteristics has a first order effect on startup size, but only asecond order effect on the mix of debt/equity.

Home equity is an important source of collateral for startups.

This means that in terms of policy, we need to embrace creative solutions to debtaccess for small firms


the financing choices of young firms · 03-11-2012 · business credit cards business credit line...

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