HOUSE BILL REPORT

E2SSB 5665

BYSenate Committee on Ways & Means (originally sponsored by Senators Smitherman, Fleming, Warnke and Bender)

Authorizing local development assistance.

House Committe on Trade & Economic Development

Majority Report:  Do pass with amendments.  (10)

      Signed by Representatives Vekich, Chair; Wineberry, Vice Chair; Belcher, Braddock, Cantwell, Grant, Holm, Kremen, McMullen and Rasmussen.

Minority Report:  Do not pass.  (6)

      Signed by Representatives Amondson, Beck, Doty, McLean, B. Williams and J. Williams.

House Staff:Stephen Hodes (786-7092)

AS REPORTED BY COMMITTEE ON TRADE & ECONOMIC DEVELOPMENT

APRIL 1, 1987

BACKGROUND:

In recent years, small businesses have been identified as a far more important generator of new jobs than was previously thought to be the case. Studies of job growth in the United States in the 1970s revealed that approximately half of new job creation in took place in small, new, growing firms.  A more recent study undertaken in King County suggests that an even higher proportion of local job creation takes place in small firms.  The high rate of job creation by small business is paralleled by the rate of business failure, which is also extremely high.  In 1984, the U.S. Small Business Administration estimated that up to eighty percent of all small businesses fail within the first five years of operation.  Small business failures are primarily attributed to a lack of adequate and appropriate capital resources and to inexperienced and unskilled management.

One response to the high failure rate of new businesses has been the development of small business incubators.  Incubators are programs which provide physical spaces to selected new businesses at favorable rents, as well as providing managerial and marketing assistance and access to shared support services to participating firms.  The support services and low overhead provided by incubator programs are intended to decrease the high failure rate of new businesses as they move from the start-up to the initial product marketing and commercialization stages of development.  A number of such facilities have been developed in Washington State by local governments and economic development organizations.

Commercial banks are closely regulated by the government in order to secure the safety of the public time and trusts accounts under their charge.  As a result, they are discouraged from engaging in aggressive, moderate risk business lending, particularly to small firms.  The state of Michigan has established a state loan loss reserve fund to stimulate private bank lending to small- and medium-sized firms by reducing bank exposure on specified portfolios of higher risk small business loans.  The success of the program thus far has led other states to explore the possibility of establishing similar programs.

Loan loss reserve programs involve the establishment of partially subsidized special reserve funds to cover potential losses within a specified portfolio of somewhat riskier small business loans.  Loan loss reserve accounts are designed to serve as a form of insurance, covering the losses from uncollected loans in a specified portfolio of loans until the fund of the financial institution is exhausted.  Lenders may collect funds from the reserve only to cover defaults in the portfolio.

Loan loss reserve programs are designed to operate with a minimum of bureaucracy.  Such programs are designed to be self-regulating with regard to the level of risk in loans insured by the program.  The use of loan loss programs to finance lower risk loans would not be beneficial to participating lenders because it is more expensive to make a loan through the program.  The use of such programs to finance overly risky loans would also not be beneficial to participating lenders.  Unnecessary defaults would serve to exhaust the reserve fund of the lender, which would result in the lender being fully exposed to potential losses in the remainder of the portfolio of loans covered by the program.

SUMMARY:

BILL AS AMENDED:  There are three major components in the bill.  The first directs the Department of Community Development within its Local Development Matching Fund program to conduct feasibility studies, planning, and program development for small business incubator projects.  The department may also coordinate the delivery of management, technical, and financial assistance to small businesses within and outside such incubator projects.

The second major component creates the Washington Investment Opportunities Office within the Department of Trade and Economic Development.  The office, which acts as a clearinghouse for entrepreneurs seeking capital and investors seeking promising investments, shall be managed by a director appointed by the director of the department.  The office shall:

o Maintain a list of entrepreneurs engaged in manufacturing or traded services in the state seeking capital resources;

o Assist entrepreneurs in procuring the managerial and technical assistance necessary to attract potential investors;

o Provide prospective investors and entrepreneurs with information on available investments and investors;

o Remain informed about national trends and preferences in capital markets and provide timely information to both investors and entrepreneurs.

The office shall report to legislative committees by December 1, 1988 and annually thereafter.  The director of the office shall form an advisory panel to assist in directing the services of the office upon consultation with state agencies with economic development responsibilities, and local economic organizations.

The third major component establishes the Washington Small Business Loan Program in the Banking and Consumer Finance Division of the Department of General Administration.  The program initiates a loan reserve fund administered by the State Supervisor of Banking.  The program is managed by an executive director appointed by the supervisor.  The supervisor shall report annually to the governor and to legislative committees by December 1.

The Small Business Loan Reserve Fund is established in the state treasury, to include state appropriations and other public and private funds.  Monies in the Fund are used to secure small business loans made in the Program. Participating lenders and borrowers shall negotiate premium charges for loans of between three and seven percent of the loan.  Lenders and borrowers shall contribute equally to the premium charge which shall be deposited in the Small Business Loan Reserve Fund.  The state shall deposit an equal amount in the reserve fund.  The premium charge and the matching payment are registered in the bank's name and may be used to cover future losses from loans registered in the program by that bank.  Payments made to cover losses on loans made under the program are limited to the amount in the fund attributable to the bank experiencing the loss.

The Supervisor of Banking may examine loans made by participating banks to ensure that banks are exercising reasonable care in the making and collection of loans in the program.  The executive director shall certify that financial institutions participating in the program have the experience and financial capability to participate in the program.  The Supervisor of Banking shall adopt eligibility criteria for loans made under the program.  Criteria shall include potential for: benefitting economically distressed communities, and economically disadvantaged and low and moderate income individuals; creating new employment opportunities and retaining existing employment; local economic diversification; and the impact on mature industries.  Criteria shall be consistent with the intent of the legislation to assist small businesses with strong potential for growth and job creation, and loans shall be made primarily to manufacturing and traded services firms.  No more than 25 percent of loans made by participating financial institutions may be used by businesses financed under the program to repay existing loans.

Each major component of the bill will only take effect if sufficient funds for implementation are provided by the Legislature by July 1, 1987.  A severability clause is attached.

AMENDED BILL COMPARED TO ENGROSSED SECOND SUBSTITUTE:  Funds are not specifically set-aside for incubator program in amended bill.  The Office of Investment Opportunities is established in the Department of Trade and Economic Development rather than in the Department of Community Development. Director of the Office of Investment Opportunities shall be appointed by the director of the Department of Trade and Economic Development rather than directly by the governor.  Director of the Small Business Loan program shall be appointed by the Supervisor of Banking rather than directly by the governor.

The intent of the legislature in creating the Small Business Loan program is made explicit: to provide incentives to financial institutions to make loans to small business; to increase the availability of small business financing to economically distressed communities and economically disadvantaged individuals; and to help create new employment and retain existing employment in the state.  Supervisor of Banking is directed to establish criteria for loans benefitting from Small Business Loan program.  Criteria are expanded to include potential for: benefitting economically distressed communities, and economically disadvantaged and low and moderate income individuals; creating new employment opportunities and retaining existing employment; local economic diversification; and the impact on mature industries.  Provisions added state that each major component of the bill will only take effect if sufficient funds for implementation are provided by the Legislature by July 1, 1987.

Fiscal Note:      Attached.

House Committee ‑ Testified For:    Senator Fleming; Senator Smitherman; C. Mark Smith, C. Mark Smith and Associates; Jackie Lum, Rainier Valley Enterprise Centers; and Lawanna B. Lee, Tacoma-Pierce County Business Development Center.

House Committee - Testified Against:      None Presented.

House Committee - Testimony For:    Financing is a critical need for small business.  Incubator program is a critical component of the bill. Department of Community Development already assists incubator facilities on a small level.  Program should be where experts are. Incubators are added tools to promote economic development.  Two hundred small business incubators currently operating in the country. Seventeen states already provide support to incubator formation.

House Committee - Testimony Against:      None Presented.