SMALL BUSINESS INVESTMENT COMPANIES “SBICs”
In 1958, Congress created The Small Business Investment Company (SBIC) program. SBICs, are licensed by the Small Business Administration, are privately organized and managed investment firms/funds. 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. The program was created by Congress to fill the gap between the availability of venture capital and the needs of small businesses in start-up and growth situations. Since it’s inception in 1958 this unique public/private partnership has provided $46 billion in financing to almost 100,000 small US companies.
SBICs are generally organized and operated like any other venture capital, mezzanine or private equity fund. There are, however, a few notable exceptions. Unlike traditional funds, SBICs receive up to approximately two-thirds of their total capital from the SBA. In return, an SBIC must invest in "Small Businesses" as defined by the SBA, abide by a body of regulations and submit to annual regulatory and operational examinations. An applicant for a SBIC license must raise a minimum amount of private capital. It is this private capital that is "leveraged" up to 2:1 or (less frequently) 3:1 with SBA funds, provided the applicant successfully completes the rigorous SBA licensing and audit processes. The SBA leverage is provided at below-market rates which increases the returns to the limited partners.
THE SIZE OF THE CURRENT SBIC PROGRAM
At the end of FY 2005, SBA had over $6.3 billion invested in 418 funds, plus another $5.1 billion in outstanding commitments. Together with private capital topping $12 billion, the program totals over $23 billion in capital resources dedicated to America’s entrepreneurs.
THE SBA FUNDS THE SBIC PROGRAM
No tax dollars are appropriated to fund SBIC debentures. Rather, SBIC debentures are pooled periodically and sold in the public markets to private investors in the form of SBA Guaranteed Certificates.
SBA PARTICIPATION IN THE SBIC PROGRAM
The government itself does not make direct investments or target specific industries. Essentially, the SBIC program is a “fund of funds” – meaning that portfolio management and investment decisions are left to qualified private fund managers. As a result, SBA has very minimal direct involvement in a SBIC’s portfolio management operations.
WHO BENEFITS FROM THE SBIC PROGRAM?
Small businesses which qualify for assistance from the SBIC program are able to receive equity capital, long-term loans, and expert management assistance. Investment managers participating in the SBIC program can supplement their own private investment capital with funds borrowed at favorable rates through the federal government. Most importantly, the Nation's economy benefits from the program as the small businesses financed by SBICs continue to create hundreds of thousands of jobs and generate tax revenues over the program’s life.
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.
GOVERNMENT LEVERAGE
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 $124.4 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 sale.
LOANS
SBICs can offer long-term loans and solutions to small business concerns by providing them with the 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.
DEBT SECURITIES
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.
EQUITY SECURITIES
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.
CONTROL
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.
OVERLINE LIMITATIONS
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.
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