Experian/Moody s Analytics Small Business Credit Index

Q4 2014

Table of Contents Experian/Moody s Analytics Small Business Credit Index 2 Executive summary 2 Behind the numbers 4 Recent performance 4 The West continues to dominate 4 Industry view 6 Looking ahead 7 Interactive Business Information Map View a visual representation of business health broken down by U.S. states and Metropolitan Statistical Areas at: www.experian.com/ibim 1

118 116 114 112 110 108 106 104 102 100 98 2010Q1 2010Q2 2010Q3 2010Q4 2011Q1 2011Q2 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2012Q4 2013Q1 2013Q2 2013Q3 2013Q4 2014Q1 2014Q2 2014Q3 2014Q4 Current quarter (2014 Q4): 116.7 Previous quarter (2014 Q3): 115.2 Small Business Credit Index reaches new heights in Q4 2014 Executive summary The Experian/Moody s Analytics Small Business Credit Index (SBCI) added 1.5 points to reach 116.7 from a revised 115.2 in the third quarter (previously 114.8). The index measures credit conditions for firms with fewer than 100 workers, and last quarter s move puts it at an all-time high. This is the third consecutive quarterly gain for the index amid swiftly improving small-business credit conditions. Credit balances and the number of trades each expanded in the fourth quarter, contributing to the rise in the SBCI. This was accompanied by a decline in the delinquency rate to a cyclical low of 8.5 percent (see Chart 1). Additionally, job growth continued at a brisk clip last quarter, further supporting the top-line index value. 2

December payroll employment grew by 329,000, and upward revisions to October and November resulted in average monthly gains of 324,000 for the quarter. The economy generated 3.1 million jobs in 2014, the strongest pace since 1999. The stronger job market is reflected in various measures of consumer sentiment. Both the Conference Board and University of Michigan consumer confidence indexes pulled higher to end the year, and both began 2015 at cyclical highs. Healthy fundamentals favor improved consumer sentiment in 2015 and are increasingly supportive of spending growth (see Chart 2). According to the Bureau of Economic Analysis advance estimate for Q4 gross domestic product (GDP), real consumer spending growth accelerated to its fastest pace since 2006. Plunging energy prices are a big support, freeing cash for other purposes. Job growth is strong, and gains are coming broadly across industries and wage tiers. Wage and salary income growth is improving as labor markets tighten despite moderating in December. At least some of this additional expendable cash will make its way to small businesses, meaning additional short-term improvements are likely. Benefits of lower energy prices are not shared evenly, however. Consumers in the South win because they drive more and spend a larger share of their budgets on gasoline, and rural residents spend a greater share of their cash outlays on gasoline and fuel oil than those in urban areas (see Chart 3). As such, it is possible that the benefits to small-business credit quality could be biased toward firms in the rural South more so than in other regions. Chart 1: Rising Balances and Lower Delinquency in Q4 Firms with fewer than 100 workers 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 13Q1 13Q2 13Q3 13Q4 14Q1 14Q2 14Q3 14Q4 Sources: Experian, Moody s Analytics Outstanding credit, % change yr ago (L) Delinquency rate, % (R) Chart 2: Strong Spending Growth Poised to Continue Real consumer spending, annualized percentage change 5 4 3 2 1 0 10 11 12 13 14 15F 16F Sources: BEA, Moody s Analytics Chart 3: Nonoil South, Mountain Regions Would Gain Gasoline expenditure share of disposable income, percentage, 2012 Sources: BEA, EIA, Moody s Analytics U.S.=3.9 <3.9 3.9 to 4.6 >4.6 11.0 10.5 10.0 9.5 9.0 8.5 3

Behind the numbers Broad-based support lifted the Experian/ Moody s Analytics Small Business Credit Index to its most recent high in the fourth quarter. Outstanding credit balances grew by 2.7 percent annualized and are up 2.2 percent from a year ago. This marks a noticeable acceleration from earlier in the recovery and also reflects a more consistent growth pattern in small-business lending. Not only are credit balances growing, but the share being paid late fell to 8.5 percent last quarter, the lowest rate since data tracking began. This represents a 0.3 percentage point drop from 8.8 percent in the third quarter and is the second-steepest quarterly decline in the index s history. Balances 30 days past due and severely delinquent balances those that are more than 99 days past due each had 0.2 percentage point declines in the fourth quarter, while balances 90 days past due decreased by a more modest 0.1 percentage points (see Chart 4). While some of the decline in the severely delinquent bucket could be attributed to account closures, the 1.4 percent annualized expansion in the number of trade accounts suggests this is not the case, or at least not the norm. Recent performance As consumer spending and sentiment have continued to grow and improve throughout the year, so too has the ability for small businesses to stay on top of their payment behavior. According to business credit data from Experian, small businesses have seen marked improvement across the board. Over the past year, businesses have reduced the number of days they paid their bills past due by more than a day, or 19.4 percent, and have seen the average commercial risk score rise 3.1 percent, going from 59.8 to 61.6. Additionally, over the same time period, bankruptcy rates have dropped significantly, with 10.9 percent fewer businesses filing. Furthermore, improving credit conditions, in conjunction with broader small-business performance metrics, suggest small businesses finally may be shaking off the effects of the recession. The NFIB Small Business Optimism Index rebounded in December to its highest level since October 2006. Gains were broad-based, with eight of the index s 10 subcomponents showing improvements. Small-business owners are bullish on their sales prospects, and the share of small companies that feel now is a good time to expand also hit a postrecession high (see Chart 5). Moreover, the share that hired new workers and plan to hire new workers is trending at a cyclical high, as well as the proportion that plans to increase employee compensation. Revisions to last year s Intuit smallbusiness data reveal a far stronger trend in revenue growth for firms with fewer than 20 workers, as well as a much more favorable trajectory for worker hours and earnings. Prior to revisions, it appeared that revenue growth had stalled in late 2014, raising concerns that pay cuts, shorter workweeks or even a modest number of layoffs may have been on tap to begin 2015. However, that apparently is not the case, and the revised figures are more consistent with the recent rise in the NFIB Small Business Optimism Index and the SBCI. The sharper increase in worker hours and pay in the Intuit report also may provide some evidence that average weekly earnings growth, as reported by the Bureau of Labor Statistics, is being understated. Even though lower gasoline prices are helping to lift consumer spirits, it is unlikely the whole story, and pay raises could be another factor leading buyers to report their strongest current finances in years. Stronger earnings growth in the latter half of 2014 also would jibe with the acceleration in consumer spending that contributed so much to GDP growth last quarter. The West continues to dominate The rigid regional pattern in place since the outset of the recovery, in which small-business credit quality has been drastically better in western states than for those east of the Mississippi, remains firmly entrenched (see Chart 6). In particular, small companies in the Mountain West enjoy substantially lower delinquency rates than their counterparts in other regions. The share of balances being paid late in Utah is a mere 0.8 percent, and small firms are paying 3.1 percent of their balances beyond contracted terms in Arizona, which came in a distant second. The West s outlook is brightest among U.S. regions, meaning this trend likely will continue. Strong job growth accompanied by relatively high wages and a diminishing supply of available housing units in some areas generates good potential for newhome construction. The latter point is particularly important. On average, construction firms in the United States employ just eight workers, placing them squarely within the classification of 4

Chart 4: Improvement Across Most Delinquency Buckets Percentage point contribution to change in delinquency rate 1.5 1.0 0.5 99+ days 90-day 60-day 30-day Total 0.0-0.5-1.0-1.5 12 13 14 Sources: Experian, Moody s Analytics Chart 5: Small Businesses Get Their Groove Back Net percent of small firms planning to invest over the next 3 to 6 months 34 32 30 28 26 24 22 20 18 16 14 07 08 09 10 11 12 13 14 Sources: NFIB, Moody s Analytics Chart 6: Regional Divide Has Not Narrowed Percent of balances past due, firms with fewer than 100 workers 11.57 to 29.50 5.44 to 11.56 0.80 to 5.43 Sources: Experian, Moody s Analytics 5

small business. Further, considering how well shoppers are faring in the region, low energy costs will boost consumption of other goods and services. The South will follow closely behind, but income gains in Texas are at risk if the pace of drilling slows and the price of crude oil stays low. This could mean a temporary backslide in credit quality for small firms there, since the loss of high-paying drilling jobs would have a disproportionately large negative impact on personal income growth and consumer spending in the state, especially in Houston. Indeed, energyrelated investment is expected to be slower in 2015 than previously thought, as low prices crimp profits for oil companies (see Chart 7). Southeastern states, however, largely face only upside potential from lower oil prices. Texas and North Dakota, another top performer in terms of small-business credit quality, will suffer a slowdown in exploration and development work for oil wells. However, neither is at risk of recession. As supply growth slows and low prices create greater demand for energy, oil prices will stabilize. The outlook projects oil at nearly $80 per barrel by the end of this year as reduced supplies and rising demand correct current imbalances. The Northeast and Midwest will continue to lag, but risks due to lower oil prices are nearly all to the upside for these regions. Manufacturing in the Midwest has the potential to accelerate and expand its lead over the Northeast. The pace of job growth already has begun to pick up, and residential construction permits are on the rise. The pace could be uneven through the coming year, however, as inventories built up in the fourth quarter are sold through in the early part of this year. Taken together, this could mean a smaller variation in small-business credit quality among regions. This is not to say a change in rank order is expected. The West likely will lead by a wide margin for some time to come, but the gulf should narrow as these events play out. Chart 7: Bigger Hit to Energy-Related Spending Expected Real investment, oil/gas structures and machinery, percent change year ago 20 15 10 5 0-5 11 12 13 14E 15F 16F 17F Sources: BEA, Moody s Analytics Jan 2015 forecast Dec 2014 forecast Industry view Small businesses across industries are faring better than they have in years (see Chart 8). Small agriculture-related firms so far have withstood the steep drop in crop prices over the past year. Credit conditions improved in the fourth quarter, and the share of past-due balances declined 0.6 percentage points to 6.5 percent, a recovery low. The decline was driven by a drop in balances 30 and 60 days past due, while the share of severely delinquent balances remained stable, which is encouraging. Moreover, the number of total tradelines rose 1.3 percent and total balances increased 3.5 percent, which bodes well for farmers and ancillary businesses that struggled with falling commodity prices last year. The share of past-due balances owed by small construction companies fell to 12.6 percent in the fourth quarter. This is still above the 8.5 percent average for all industries, but the rate is 0.4 percentage points lower than in the third quarter and 10.7 percentage points below the peak reached in December 2010 in the throes of the recession. However, the news may not all be good. As in the previous quarter, the drop in total delinquency among small builder firms was led solely by a steep decline in severely delinquent balances. The drop in the delinquency rate was accompanied by fewer tradelines and a nearly 3 percent decline in the volume of balances. This suggests that at least some accounts in the industry may have been closed, marking a difference between the construction industry and most others. 6

Chart 8: Most Industries Improve in 2014 Percentage point change in delinquency rate, 2013Q4 to 2014Q4 Construction Transportation Trade General Services Agriculture Manufacturing Other Finance Administrative Sources: Experian, Moody s Analytics -4-3 -2-1 0 1 2 3 Looking ahead The U.S. outlook remains positive. Moody s Analytics expects GDP growth to exceed 3 percent through 2015, and the United States should be back to full employment by mid- to late 2016. Average earnings will increase as the labor market tightens. This will go a long way in boosting consumer sentiment and spending, which ultimately will support small-business balance sheets. Several forecast risks are present, however. Annual benchmark revisions to Bureau of Labor Statistics employment data for 2014 uncovered a stronger year for job and wage growth, putting 2015 on a stronger trajectory than previously believed. This raises the odds of a breakout year for consumer sentiment and spending, which would provide huge support to small-business balance sheets. The European Central Bank s quantitative easing program is larger than expected and should breathe some life into the Northeast s economy, helping small firms work down arrears there. Even so, the implications for the U.S. outlook are minor, at best. The U.S. economy will benefit from a stronger eurozone economy, but the weaker euro will hurt trade. All told, the net impact on U.S. GDP will be fairly small. Uncertainty surrounding Greece s future within the eurozone clouds the immediate outlook. If the Syriza party s parliamentary victory results in an exit from the eurozone, Greece will plunge back into recession. U.S. lenders are only modestly exposed to Greece, but their exposure to Europe as a whole is substantial. The resulting losses will limit credit issuance, while contagion across Europe will slow demand for U.S. exports. A misstep in the normalization of monetary policy will weaken the baseline outlook for strong growth in 2015. Financial markets are expecting the first hike in short-term interest rates to take place around September. In the past, the Federal Reserve has raised rates faster than initially intimated, catching traders off-guard. As markets adjust to the central bank s pace, the possibility of a selloff and a sharp upward shift of the yield curve opens up. A spike in borrowing would weigh on growth, but long-term rates could remain lower for an extended period. Should this scenario play out, business investment and housing likely will outperform the base-line outlook, directly supporting smallbuilder company revenues and potentially boosting the volume of small-business loans. Notwithstanding the risks outlined above, economic fundamentals favor additional support from domestic demand in coming months, which should more than offset the effects of a temporary weakening in economies outside the United States. All told, the Experian/Moody s Analytics Small Business Credit Index should remain at or above its current high over the next couple of years as the U.S. recovery evolves into a full-fledged expansion. 7

About the index Experian joined forces with Moody s Analytics, a leading independent provider of economic forecasting, to create a business index and detailed report that provides insight into the health of U.S. businesses. The Experian/Moody s Analytics Small Business Credit Index is reported quarterly to show fluctuations in the market and discuss factors that are impacting the business economy. Interactive Business Information Map View a visual representation of business health broken down by U.S. states and Metropolitan Statistical Areas at www.experian.com/ibim. About Experian s Business Information Services Experian s Business Information Services is a leader in providing data and predictive insights to organizations, helping them mitigate risk and improve profitability. The company s business database provides comprehensive, third-party-verified information on 99.9 percent of all U.S. companies. Experian provides market-leading tools that assist clients of all sizes in making real-time decisions, processing new applications, managing customer relationships and collecting on delinquent accounts. For more information about Experian s advanced business-to-business products and services, visit www.experian.com/b2b. About Moody s Analytics Moody s Analytics, a unit of Moody s Corporation, helps capital markets and credit risk management professionals worldwide respond to an evolving marketplace with confidence. The company offers unique tools and best practices for measuring and managing risk through expertise and experience in credit analysis, economic research and financial risk management. By offering leading-edge software and advisory services, as well as the proprietary credit research produced by Moody s Investors Service, Moody s Analytics integrates and customizes its offerings to address specific business challenges. Further information is available at www.moodysanalytics.com. CONTACT EXPERIAN BUSINESS INFORMATION SERVICES T: 1 877 565 8153 W: experian.com/b2b 2015 Experian Information Solutions, Inc. All rights reserved CONTACT MOODY S ANALYTICS T: 1 866 275 3266 E: help@economy.com W: moodysanalytics.com Copyright 2015 Moody s Analytics, Inc. All Rights Reserved. Copyright Notices and Legal Disclaimers 2015 Moody s Analytics, Inc. and Experian Information Solutions, Inc. and/or their respective licensors and affiliates (collectively, the Providers ). All rights reserved. ALL INFORMATION CONTAINED HEREIN IS PROTECTED BY LAW, INCLUDING BUT NOT LIMITED TO, COPYRIGHT LAW, AND NONE OF SUCH INFORMATION MAY BE COPIED OR OTHERWISE REPRODUCED, REPACKAGED, FURTHER TRANSMITTED, TRANSFERRED, DISSEMINATED, REDISTRIBUTED OR RESOLD, OR STORED FOR SUBSEQUENT USE FOR ANY SUCH PURPOSE, IN WHOLE OR IN PART, IN ANY FORM OR MANNER OR BY ANY MEANS WHATSOEVER, BY ANY PERSON WITHOUT THE PROVIDERS PRIOR WRITTEN CONSENT. All information contained herein is obtained by the Providers from sources believed to be accurate and reliable. Because of the possibility of human or mechanical error as well as other factors, however, all information contained herein is provided AS IS without warranty of any kind. Under no circumstances shall the Providers, or their sources, have any liability to any person or entity for (a) any loss or damage in whole or in part caused by, resulting from, or relating to, any error (negligent or otherwise) or other circumstance or contingency within or outside the control of Providers or any of their directors, officers, employees or agents in connection with the procurement, collection, compilation, analysis, interpretation, communication, publication or delivery of any such information, or (b) any direct, indirect, special, consequential, compensatory or incidental damages whatsoever (including without limitation, lost profits), even if the Providers are advised in advance of the possibility of such damages, resulting from the use of or inability to use, any such information. The ratings, financial reporting analysis, projections, and other observations, if any, constituting part of the information contained herein are, and must be construed solely as, statements of opinion and not statements of fact or recommendations to purchase, sell or hold any securities. NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELINESS, COMPLETENESS, MERCHANTABILITY OR FITNESS FOR ANY PARTICULAR PURPOSE OF ANY SUCH RATING OR OTHER OPINION OR INFORMATION IS GIVEN OR MADE BY THE PROVIDERS IN ANY FORM OR MANNER WHATSOEVER. Each rating or other opinion must be weighed solely as one factor in any investment decision made by or on behalf of any user of the information contained herein, and each such user must accordingly make its own study and evaluation of each security and of each issuer and guarantor of, and each provider of credit support for, each security that it may consider purchasing, holding, or selling.