Small businesses are going bust at an alarming rate
The risk of failing is a gamble every small business owner takes when they first get their company up and running. But the rate at which companies are hitting the panic button in 2023 could be a warning sign of bigger trouble.
On Oct. 1, a report from the Wall Street Journal found that nearly 1,500 small businesses have filed for Subchapter V bankruptcy so far in 2023.
That figure is close to the total for the entirety of 2022 and has already surpassed the total bankruptcy cases from both 2020 and 2021.
Subchapter V: The lesser-known bankruptcy
Most people are familiar with the individual plan known as Chapter 11 bankruptcy. Subchapter V is a bit different and more beneficial for owners whose company is headed south.
Subchapter V was created by the Small Business Reorganization Act, which went into effect in 2019. It allows businesses to declare bankruptcy, assuming they have less than $7.5 million in total debt, without securing permission from their creditors.
In other words, Subchapter V is intended to make it cheaper and easier for small businesses to get back on their feet. Although less "serious" than Chapter 11, the rising swell of these failures is nonetheless troubling.
Struggling to pay the bills
The same economic factors that are straining Americans are also hitting hard those who own their own businesses.
Much as it did for individuals when it came to suspending mortgage payments and student loans, the U.S. government passed several laws to spur the reinvestment of the U.S. into itself in the form of new business.
But the honeymoon period has ended on almost all of those mandates, and reality is sinking in.
The perpetual state of high interest rates is a big reason that small businesses cannot pay their bills. Those who took out variable-rate loans during the pandemic were able to get by on minimal interest payments until recently.
Taking out a $100,000 loan for ten years at 1% interest in 2020 when lenders were desperate for business meant you owed your bank about $875 per month.
But in the second quarter of 2023, the average small business bank loan ranged from 5.75% up to 12%. Assuming an interest rate at a median point of 8.5%, the payment balloons to $1,240 per month.
In a realm where every dollar saved is huge, that sort of swing can be crushing.
Higher interest rates and a deteriorating economy also mean banks are keeping their cards close to the vest on who to lend money to.
Higher wages don't help either
If small businesses can’t secure the loans they anticipate needing, they have nowhere else to turn to be able to pay their bills.
One of those rapidly increasing bills is employee wages. With inflation a struggle across the board, workers are demanding better pay, and that puts a damper on companies’ bottom lines.
At the end of September, California’s Governor Gavin Newsom signed a law to raise the minimum wage for fast-food restaurants to $20 per hour, a 30% increase.
Even without legislation, average wages have risen sharply since the pandemic, even for the lowest-paid workers. According to the Economic Policy Institute, the lowest paid saw their real income (emphasis on real) grow 9% between 2019-2022.
Among higher-skilled workers, the average expected annual salary has increased to a record $78,645, according to the New York Fed.
“While it is good news that people are working, the tight labor market hurts the bottom line for small businesses,” says Rohit Aora, CEO of Biz2Credit. “Companies that need working capital to pay their bills are paying a higher cost of capital for it.”