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The rush to embrace small business lending and services could mean credit unions are overlooking something-it can be an expensive endeavor.

Christine Barry, an analyst with Celent Communications who specializes in commercial lending, small business and online banking told the NACUSO Fall Leadership Conference that while there is ample opportunity to reach out to the approximate 25-million small businesses in the country today, they are a "very expensive segment to serve."

That's because they aren't a homogeneous group but tend to be demanding, asking for more automated services and lower fees, Barry stated. Yet financial institutions are chasing the market because small businesses spend nearly $120 billion annually on financial products and they want to keep all their banking services in one place for convenience, she added. Of that amount, the spending breaks down as follows:

* P&C Insurance, 32%

* Checking and cash management, 15%

* Life and health insurance, 17%.

* Investments, 6%

* Lending 19%

* Payroll and tax, 5%

* Other 6%.

The good news is that technology is helping to lower the cost of service, but the bad news is that banks are "beginning to see the true potential" of the market, even as credit unions are beginning to expand there as well, according to Barry. It all means that the competition for the most profitable of clients will only get more intense, Barry said.

Not news to credit unions is what Barry described as a common perception that poor service at national banks has caused attrition in the small business market. "You should leverage this fact to pick up business. But it's also being perceived by the banks, who are trying to adjust customer service."

Barry named Wells Fargo, Bank of America, Bank One U.S. Bancorp and Chase Manhattan as the top five "small business friendly" banks.

The chief reason the small business market is expensive to serve is because it still prefers going to branches to conduct business transactions and expects one-on-one service. In 1999, almost 60% of business was handled that way. In 2003, the figure had dropped by 5%. Acceptance of online transactions has been slow, Barry said, with only 12% of small business using the online channel in 2003. Projections are for 6% to do so in 2004 and more than 20% in 2005.

"There are performance problems with the platforms," she said, and most owners remain skeptical. "They are risk-averse and fear the unknown."

Business solutions for large corporations are too sophisticated and retail solutions don't offer business capabilities, she explained. That too, will soon change, as financial institutions will spend nearly $1.5 billion on small business banking technologies this year alone.

Credit unions face the same challenges as small banks for winning over the small business market, said Barry, and one other big hurdle that banks don't. That's the perception that they don't do business with businesses.

"Credit unions have a weak reputation for small business banking," said Barry.

Getting Good Advice, and Taking it

Bruce Phillips of the National Federation of the Independent Business Research Foundation informed that credit unions might make a bigger dent in the market by having consultants on hand to work with their small business clients. Given that 70% of small businesses have 10 or fewer employees (only 15,000 have 500 or more) the need for advice is critical to survival.

Most owners look to their spouses for advice now. Some 40% of owners look to bankers for advice, and take that 66% of the time. "Credit union officers can serve in this capacity," he said.

Getting Paid Advice, and Taking it

Marketing consultants gave paid advice 25% of the time and it was taken nearly 70% of the time, and suppliers or vendors filled in some 80% of the time. "Credit union support organizations, CUSOs in particular, can fill this role, too," Phillips said.

Making a link with the online channel, Phillips said that web designers were also being asked for advice, which was costly. "Perhaps CUSOs should have relationships with web designers and hosting services that work with or for small businesses."

Phillips also reflected a trend that is already evident in the CU-CUSO landscape: cooperative CUSOs, when he said that "credit unions will need to network with other credit unions in order to provide the scale associated with the automation of loan approvals. Business loans are credit scored; credit unions will have to get with that program.

Small business owners borrow to replace or repair equipment, but only when it wears out, he said (47%). Some 23% borrow to expand the business, 21% to offer new products or expand into new areas and 3% borrow to satisfy safety or environmental regulations.

With more than 1,500 credit unions already doing Small Business Administration loans, Phillips noted that positive regulatory changes would see that number jump "exponentially." But the personal credit card can be a formidable competitor to small business borrowing, as most borrow from their personal cards rather than on business credit cards.

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