ARCHIVED—Comprehensive Review Report (2004–09)

5. Performance Review

5.1 Approach

A number of research studies and ongoing internal analyses were carried out by or for Industry Canada to inform the review of the CSBF Program. They can be grouped into the following categories:

• Program evaluation: An independent program evaluation was carried out under the direction of a public–private sector committee, based on a results-based management and accountability framework (RMAF) that Treasury Board recommends be used for assessing major policies, programs and initiatives. The RMAF identified key questions for the evaluation, including the program rationale, incrementality, cost recovery, economic impact, and program efficiency and effectiveness.
• Economic impact and benefit: Studies were undertaken on the program's incrementality, longitudinal economic impact and cost-benefit.
• Cost recovery: Borrowing, defaults and claims experiences of SBL and CSBF Program borrowers were compared. Cost recovery forecasts based on various statistical models were carried out and subsequently updated with the latest information. A risk and revenue analysis of the portfolio's changing characteristics was also conducted.
• Stakeholder discussions and surveys: Meetings were held with representatives from financial institutions to discuss working experience with the program and possible improvements. A borrower awareness and satisfaction survey was conducted, and lenders and borrowers were interviewed regarding their experience with CSBF Program loans as part of the program's evaluation.

Reports from this research are listed in Appendix A, and can be found at the CSBF Program Research and Studies website.

5.2 Program Activity

Between 2004–09, the CSBF Program supported nearly $5.1 billion in loans to approximately 48 000 small businesses. The average loan size during this period was $105 700.

The value of annual lending declined by 13 percent over this period, from about $1.04 billion in 2004–05 to slightly over $900 million in 2008–09. The number of loans decreased proportionately more, from 11 100 to 7800, or by 29 percent. Consequently, the average annual loan size increased, from $93 500 in 2004–05 to $116 800 in 2008–09.¹⁵

Reasons for the decline in lending volumes include a decrease in the demand for debt financing over the five years,¹⁶ increased use of flexible commercial lines of credit and credit cards by small businesses, an increase in the relative importance of service sector and research and development (R&D)-intensive firms using sources of financing other than asset-based debt, and administrative burden on lenders and borrowers using the program.

Start-up firms less than one year old accounted for 54 percent of the five-year total number of CSBF Program loans, and 60 percent of their value. This compares with 50 percent and 57 percent, respectively, during the previous five years of the CSBF Program. In view of the greater difficulties experienced by start-ups in obtaining financing discussed earlier in Section 3 (because they often lack both the collateral and experience to make them credit-worthy), this result indicates the high degree of incrementality achieved by the CSBF Program.

The program facilitated financing of small businesses in all provinces and territories. Figure 3 compares the population of CSBF Program borrowers (2004–09) to the overall population of SMEs (in 2008). It shows that in some regions the share of borrowers roughly approximated the share of SMEs located in that region (e.g., Manitoba, Nunavut and Newfoundland). Elsewhere the borrowers' share exceeded the region's share of SMEs and vice versa (e.g., Quebec and Nova Scotia).

The CSBF Program is demand-driven and does not target any particular region or sector. As such, these regional variations in program use reflect the choices made by lenders and borrowers.

Long description for Figure 3: Percentage Distribution of CSBF Borrowers (2004–09) vs. Canadian SME Population by Region (2008)

CSBF Program loans have helped support the purchase of equipment (52 percent of the five-year total value of credit), real property renovations (19 percent) and leasehold improvements (29 percent).

Other Economic Benefits

The program has resulted in substantial job creation and preservation. When changes in employment growth between CSBF Program firms and comparable SMEs were analyzed, it was found that CSBF Program firms were able to retain an average of 18 600 more employees in a given year than comparable SMEs. In addition, it was found that expenditures made by CSBF Program borrowers to acquire assets created an average of 4800 additional (supplier-related) jobs annually.¹⁷ Job displacement impacts are unknown.

A Statistics Canada economic impact study compared CSBF Program borrowers with similar firms that were not CSBF Program clients. It confirms positive results for program users and the Canadian economy. The study demonstrated that across industries, regions, and businesses of varying size, CSBF Program borrowers showed more employment growth than other firms.

In addition, CSBF Program borrowers had:

• higher sales growth than other firms (11–24 percent higher for each year during the four-year study period);
• higher employment growth than other firms (5–9 percent higher);
• higher investment growth than the comparison group (ranging from 14.5 percent to 68 percent vs. 15 percent to 59.1 percent annually);
• higher average and total sales growth than their peers (35.8 percent vs. 33 percent, and 28.5 percent vs. 15.9 percent respectively); and
• slightly higher business survival rates than non-borrowers (ranging from 70.9 to 93.5 percent compared to 69.7 and 91.7 percent annually).¹⁸

A more detailed overview of program activity during the first five years of the CSBF Program, including charts and graphs, is provided in Appendix C.

5.3 Incrementality vs. Cost Recovery

The essential challenge facing the CSBF Program has been and remains ensuring appropriate support for access to financing by small, often young businesses that would not likely obtain it otherwise, while at the same time striving to recover costs.

In a 1997 report on the SBL Program, the Auditor General of Canada commented that the dual objectives of increasing the availability of loans at reasonable rates and recovering all costs need careful analysis. It was suggested that the extent to which these two objectives are simultaneously achievable be thoroughly studied, and that it was uncertain whether full cost recovery would be achieved under existing program parameters.¹⁹

The Auditor General's report helped inform Parliament's deliberations in the development of the CSBFA. While authority for pilot projects was provided for capital leasing and extension of the program to the voluntary sector,²⁰ program parameters remained unchanged. The contingent liability of the Crown to CSBF Program lenders was capped according to a declining-share formula based on the value of loans that each lender registers under the program. Measures concerning due diligence and compliance with CSBF Program administrative rules were strengthened to reduce portfolio risks and costs.

Incrementality

Within these parameters, the CSBF Program has achieved a high level of incrementality. A credit scoring model²¹ developed in 2003 was used with 2007–08 survey data to determine the most recent incrementality of the program. In 2003, incrementality was estimated at 75 percent, however, since then a number of important model characteristics have increased in risk. The size of CSBF Program loan recipient firms, measured by number of employees, has decreased, as has the capacity to repay loans, measured by revenues per dollar of loan. Productivity has also marginally decreased, as measured by sales per employee, and there has been an increase in the proportion of young primary owners using the CSBF Program, from 14 percent in 2001 to 17 percent in 2007. These factors have led to increases in overall portfolio risk.

Borrowers receiving loans through the program also tend to receive longer repayment terms, allowing borrowers to spread out payments and ease stress on beginning cash flows. The amount of collateral required tends to be the same as comparable non-CSBF Program loans while interest rates charged are generally somewhat higher, owing to the increased risk of the borrower.

As such, it is currently estimated that between 80 and 85 percent of CSBF Program loans would not have been made or would have been made for smaller amounts or on less advantageous terms, if the program had not been available.

Cost Recovery

Since its inception, the CSBF Program has not been fully cost recoverable. As costs are directly proportional to the risk inherent in the CSBF Program portfolio of loans, it is not surprising that the combination of an increase in the overall portfolio risk and a downturn in the economy has led to lower levels of cost recovery.

In particular, cost recovery forecasts carried out for Industry Canada suggest lending over the 2004–09 period could translate into a loss of $150.4 million on a net present value (NPV) basis. These forecasts seek to predict the value of claims from loan losses over ten years following the year in which loans are made, net of revenues from registration and administration fees paid by lenders and borrowers to the Crown.

Relative to the last five years of the CSBF Program, the level of cost recovery has decreased. For loans made from 1999–2004, it is forecast that NPV costs will total $94 million on lending of $5.36 billion, for a net cost to government of 1.8 percent (as a percentage of total lending). Over the last five years of the CSBF Program, 2004–09, the expected NPV cost is $150 million on lending of $5.1 billion, for a net cost of 3.0 percent (as a percentage of total lending). Appendix D provides a more detailed comparison of cost recovery during the first two lending periods of the CSBF Program.

5.4 Program Administration

A number of regulatory and non-regulatory measures have been implemented since the 2005 Comprehensive Review of the CSBF Program in an effort to simplify delivery functions, improve communications with lenders and decrease the administrative burden of the program.

Some of the non-regulatory steps taken include establishing a more proactive approach to communications with financial institutions through regular meetings to address concerns, improve processes and discuss portfolio trends and analysis. Communication efforts have also been strengthened through an increase in the quality and quantity of standardized information sent quarterly, reactivation of the quarterly bulletin, the implementation of service standards and increased discussion with lenders prior to final claims decisions being made.

The 2005 Comprehensive Review report specifically indicated the CSBF Program should make better use of information technology in the administration of the program. Since then, Industry Canada has been actively pursuing the possibility of applying electronic data and fund transfer processes to the administration of the program. The main elements of the project include providing the financial institutions with the ability to conduct online registrations through a secure web-based facility and to electronically transfer registration fees. Electronic claims processing is not being pursued at this point, given the complexity involved and the low volume of transactions. Depending upon approvals and support/commitment from the financial institutions, it is possible electronic registration and fund transfers could begin in 2010. It is expected that this project will increase efficiency, improve service delivery and reduce the paperwork burden and manual processes associated with the CSBF Program.

Amendments to the CSBF Regulations came into force on April 1, 2009 and were primarily focused on reducing the administrative burden and streamlining processes to be more in line with conventional lending practices. For example, the amendments allow lenders to apply their own loan prepayment penalties instead of being required to use complex regulated penalties, and give Industry Canada greater flexibility to work with lenders to correct appraisal errors that currently cause claims to be rejected. The amendments are in line with the Government of Canada's commitment to reduce paperwork burden and barriers to business growth.

These improvements were made without altering the program's key parameters. While these measures have made minor improvements to the program's administration, lenders continue to cite a lack of profitability and continued administrative burden as the key barriers to program usage. They suggest that some program requirements, such as those to gather and keep invoices for each loan, or rules that prohibit service fees, are inconsistent with evolving and increasingly automated lending practices in the competitive environment in which they operate. Lenders also continue to express frustration because of adjustment and rejections of claims for losses due to errors.

Administrative burden must by addressed through the modernization of the design of the CSBF Program (with due consideration given to accountability to Parliament and the needs of lenders and borrowers) in order to ensure the long-term viability of the CSBF Program as an affordable source of financing for SMEs.

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¹⁵ The average loan size in 2004–05 was approximately $93 500. Adjusting only for inflation suggests the average loan value in 2008–09 would be about $102 000.
¹⁶ KPMG. Evaluation of the Canada Small Business Financing Program, 2009.
¹⁷ KPMG. Study of the Economic Costs and Benefits of the Canada Small Business Financing Program, 2009.
¹⁸ Statistics Canada. Longitudinal Economic Impact Study of the Canada Small Business Financing (CSBF) Program, 2008.
¹⁹ In a 2002 Status Report, the Auditor General reiterated concern about whether the cost recovery objective would be achieved. It was considered imperative for Industry Canada to develop a better model to forecast the financial performance of the CSBF Program.
²⁰ A pilot project for capital leasing was introduced and lies beyond the scope of this review. Consultations with the voluntary sector ascertained that debt financing supported through the CSBFA was not appropriate for the financing needs of this sector.
²¹ Canada Works Ltd. Canada Small Business Financing Program: Updated Analysis of Incrementality, June 2009.