Good question.

In the old days, banks took the risk of lending money on themselves and ensured that borrowers would be able to pay it back over time. The recent fad for the securitization of risk meant that they can lend to any Tom, Dick or Harriet, then package up the debts into large parcels of small slices from many borrowers, and sell them onto other banks and finance houses.

These financial instruments, for example : collateralized debt obligations (CDOs), are the financial equivalent of supermarket sausages — nobody knows what’s in them, and many prefer not to.

How will the demise of CDOs affect the small business borrower? In the sense that many startups are categorized as sub-prime, since they don’t have a year or three’s accounts to back up their case, the situation is probably being reassessed.

The policy of reckless securitization is starting to be reversed, according to many accounts. If you have not been caught up in the debt trap created by the sub-prime fiasco, you may just be a better risk than the trailer-park poor, especially as many governments give tax breaks to banks which lend to small businesses.

Let us keep our fingers crossed.

This is a sharply pertinent question given the current and ongoing credit crunch, combined with the endlessly falling dollar and the draining of confidence out of financial markets worldwide.

Comet Holmes — predicting financial disaster?

There are two aspects to this :

1. How bad will it get?
2. How well is your business prepared?

The answer to #1 is getting blacker by the day. I don’t think I have ever read such a pessimistic press as over recent days. For example, take that excellent financial journalist Ambrose Evans-Pritchard in Britain’s Daily Telegraph today :

The root cause of this staggering debacle lies in errors made long ago by the Federal Reserve and fellow sinners. It was they who inflated the credit bubble by holding interest rates too low for too long. It was they who lulled their nations into suicidal levels of debt.

The strategic failure of a whole generation of economists, bankers, and policy-makers has been so enormous that it may now take a strong draught of socialism to save the Western democracies. We start — but may not end — with the nationalization of Northern Rock.

And that from a right-of-centre newspaper.

Clearly, we’re in for the roughest of rides over the next two years, and possibly longer. Although interest rates are tumbling and will continue to do so, even in the eurozone, the drought of liquidity around the world as banks horde cash, Scrooge-like, will permit little flexibility.

Which brings us to how well prepared your business is. The simplest, but tough, solution would be to dump as much debt as possible. This is no time to be in hock to anyone, least of all a bank. The slightest ripple in your payment schedule could cause foreclosure, especially for running overdraft facilities.

The second aspect is how firm or soggy are your markets? Will your customers be able to pay you for your goods and services? Is your marketplace one that all but disappears in a downturn, e.g., machine tools manufacture?

Can you find alternative customers, or revamp your products towards another sector of the market? In short, are you flexible enough to ride out the storm, even if it’s prolonged, as it may well be?

Businesses do survive the harshest of slumps with careful handling. However, managers will need to look long term, trim the fat off the infrastructure, find cheaper ways of doing things, and above all, stay afloat.

Whatever you do, survival measures should be put in place immediately. The banks have been hording their cash reserves for months. They know what’s coming — even if they didn’t spot it in time.