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CDFA Spotlight:
The Diversity of Revolving Loan Funds - Four Successful Programs |
Revolving loans funds (RLFs) are a gap financing measure primarily used for development and expansion of small businesses. A RLF is a self-replenishing pool of money, utilizing interest and principal payments on old loans to issue new ones. Because RLFs can take a variety of forms and pursue different goals, they represent an underused development finance tool. When properly established and administered, RLFs can be used to leverage significant private sector investment and be self-sustaining.
This article examines four programs that serve as excellent models of the role a RLF can play in economic development as part of a larger development finance toolkit. They also represent four different approaches, ranging from a regional fund to a county- and city-wide program down to a fund targeting a specific neighborhood in an urban setting.
For each program, a brief background history will be given followed by more specific analysis of components and features of the program, including goals, capitalization, loan standards/characteristics and measurements of success. While the four programs will have characteristics in common, there are also significant differences. RLFs can be tailored to fit the specific needs of the organization running it and the economic needs of the community it serves.
Introduction to RLFs
A RLF provides access to capital that can be used in combination with traditional lending sources for companies and projects that aren’t able to obtain capital from conventional sources. Often the RLF fills a gap between the amount a borrower can obtain in the private market and the amount needed to start, sustain or expand a business.
Some RLF programs offer low-interest or below market rate loans. However, below market rates are not necessary for the establishment of a RLF. The RLF is providing access to the additional capital a business can’t secure in the private sector regardless of whether they are market rates or below market rates. In either case, RLFs lower the overall risk for private lending institutions and allows expansions and projects to proceed that would not have been possible without covering the financing gap.
Below are some features to consider when establishing or analyzing a RLF program:
- Capitalization
- Program and loan characteristics
- Goals and targeted businesses
- Administration
- Measurements of success
To learn more about the basics of RLFs check out CDFA’s spotlight article covering this topic.
Downtown Development Corporation, Louisville, KY
Downtown Housing Revolving Loan Fund
History and Background
The Downtown Housing Revolving Loan Fund (Downtown Housing Assistance LLC or DHA) was established to reinvigorate urban housing in Louisville and to address the unique obstacles that face urban real estate development. The goal was to help finance market rate housing projects. The city center had not seen significant housing investment in decades, and city leaders felt the RLF could help leverage funds from traditional sources and encourage the redevelopment of downtown.
The fund was started in 2000 by the combined efforts of the city of Louisville and the Downtown Development Corporation (DDC). The DDC is a private, non-profit organization that works to bring together the public and private sectors of Louisville to foster downtown development.
The initial capitalization of the fund was split between the public and private sector. The city of Louisville contributed $2.3 million and private sector investment was $2.7 million (the fund received additional funding in 2002 to meet increased demand). The city and DDC collaborated on setting program standards and guidelines and established a committee to govern the program. The DDC administers the Downtown Housing RLF.
Program Characteristics
Part of the success of the Downtown Housing RLF comes from its existence as a private entity. This encouraged investment from the private sector and allows the RLF to exist as a for-profit enterprise. Investors will be repaid their initial investment plus interest upon maturity of the fund.
It also attracted the private sector into the downtown Louisville housing market. As board and committee members reviewed RLF applicants, they became involved in downtown urban real estate in a gradual way and led to a greater availability of financing by their institutions through traditional methods. Previously, there had been little concern by the banks for downtown housing, which created little market rate housing in downtown.
In order to create terms that are favorable to both the borrower and the primary lender, the following guidelines and conditions have been followed:
- The DHA loan is subordinate to the senior lender.
- The developers’ personal guarantee is subordinate to the senior lender.
- Interest rate is a maximum of one percent below senior lender.
- Loan payments are interest only until primary debt is repaid, then principal and interest are repaid.
- Loan maturity date will not exceed senior lender maturity date.
The average interest rate on DHA RLF loans is approximately 4%. The city collects no interest and private money is at a below market rate (not to exceed the one percent below the senior lender).
Measurements of Success
The Downtown Housing RLF has met and exceeded the expectations with which it was founded. In just eight years, the RLF has achieved the following:
- Provided gap financing on nine market rate housing projects.
- The nine projects resulted in 350 new housing units being built.
- The $5.5 million the RLF loaned helped to leverage $123 million in additional financing.
- RLF funded housing units created demand and resulted in an additional 1,168 unites being financed downtown.
- Increased population has led to additional non-housing projects being built (entertainment, retail, office, etc.).
- No loan defaults and all borrowers have paid in full and on time.
The Downtown Development Corporation’s Downtown Housing Revolving Loan Fund excelled in regards to the leveraging of additional financing with a 22:1 ratio for projects utilizing the fund. This does not include additional investment that resulted from other housing and non-housing projects the fund encouraged.
South Florida Regional Planning Council
South Florida Regional Planning Council Revolving Loan Fund
History and Background
The South Florida Regional Planning Council (SFRPC) RLF is unique in that the Council did not originate any of the four funds it now runs and manages. Instead, the Council acquired the funds from various organizations and entities within the region.
The SFRPC is one of 11 regional planning councils in Florida. The SFRPC serves Miami-Dade, Broward and Monroe Counties and is governed by a public-private board. The SFRPC accepted management of a RLF from the Dade County Economic Research Foundation in 2002. The SFRPC has since acquired three more funds from other entities to bring the total number of funds they manage to four. The SFRPC RLP program was capitalized through the U.S. Department of Commerce Economic Development Administration. The SFRPC also administers a Brownfield cleanup RLF in partnership wit the U.S. Environmental Protection Agency. The Brownfield RLF provides resources to enable properties with real or perceived environmental contamination to be returned to viable economic use.
Program Characteristics
The SFRPC RLF was established to address the specific needs in the region for lower equity loans for small companies that need start up and expansion capital. The region’s private institutions were unwilling or unable to meet the needs of these companies. The RLF provides between 10% and 20% of the total cost of the project. Loans range from $50,000 to $300,000 and are available to profitable businesses for expansion and job creation.
The SFRPC RLF is designed to provide access to capital for small businesses that:
- Is reasonably priced.
- Is matched to the useful life of the asset financed.
- Conserves cash for continued growth.
- Allows for reasonable return on equity in line with industry norms.
- Generates acceptable public benefit such as job creation and leveraging of private investment.
The SFRPC RLF now institutes much more firm standard practices in the application review process to guarantee that the company can be expected to create jobs and be able to turn a profit even with the additional debt payments. The average loan is $200,000.
Measures of Success
- 82 loans have been serviced through the RLF program.
- 38 businesses have accessed RLF funding.
- Over 1,200 jobs retained or created.
- Lending base of $7.5 million with $5.1 million currently in outstanding loans.
- RLF program has leveraged $15.2 million in private investment ($2 of private funding leveraged for every $1 loaned through the RLF).
Portfolio default rate has dropped from 52% before SFRPC took over administration of funds to 2% after taking control. The SFRPC RLF has been successful in managing struggling funds and turning them into well run programs that meet the stated goals of providing gap financing for the region’s small business to help leverage private investment.
St. Louis County Economic Council,
St. Louis Business Development Fund
History and Background
The St. Louis Business Development Fund is a public-private partnership and a for-profit corporation. The SLBDF was founded in 1994 with funding from 11 banks. The initial capitalization was $25,000 from each of those banks for a total of $275,000. Today, 24 banks are shareholders in the SLBDF along with three economic development agencies. The three agencies involved are the St. Louis Development Corporation (SLDC), St. Louis County Economic Council and the Economic Development Center of St. Charles County. A board of directors manages the fund, and the SLDC administers the program.
Any company from the region (both Missouri and Illinois) may apply for a loan. Loans are available for two targets areas:
- Growing companies in need of growth capital but are at their lending limits with their bank(s).
- Leveraged buyout
Program Characteristics
Profitability is a major component of the SLBDF and prefers to refer to their loans as investments to reflect this concept. The profitability emphasis has two results: it encourages additional private sector partners to join as shareholders and increases the sustainability of the fund for years to come.
Features of SLBDF loans include:
- Loans range from $50,000 to $500,000.
- Term length of five years.
- Interest rate is prime plus three percent
- Success Fee of 5% to 15% accrued for any year the investment is outstanding.
- No prepayment penalty.
Measures of Success
- $11 million in loans granted since 1994.
- 66 companies have used the SLBDF program
- Current portfolio consists of 28 companies with an outstanding balance of $4.7 million.
- Fund profitability and sustainability: the fund has seen revenue, net income and assets increase over time.
The SLBDF has grown significantly since its inception 14 years ago. The SLBDF continues to add investors that work in collaboration with the three largest economic development organizations of the region. As the longest established of the four funds examined, it is also important to note that the fund has continued to evolve as the size and scope of the fund has evolved. Marketing plans for the fund have been developed as well as a new due diligence. The fund has also developed line of credit relationships with the owner banks (aggregate lines of credit total $6.85 million).
City of Vineland
The Fund for Economic Development
History and Background
The city of Vineland, New Jersey was once a center of commerce for the southern part of the state. During the second part of the 20th Century, many of the industries that helped the city flourish began to decline or moved elsewhere. To deal with high unemployment and declining industry, the city pursued a number of economic development programs in the 1980s. Funding from the Department of Housing and Urban Development, in the form of an Urban Development Action Grant, was used to establish Vineland’s first RLF with a $350,000 capitalization.
Vineland’s first RLF was successful, leveraging private investment at a 3:1 ration, and led the city to look into diversifying and expanding the RLF. The Fund for Economic Development grew out of the city’s desire to expand their RLF program and Vineland’s being selected as one of New Jersey’s first Urban Enterprise Zone (UEZ) cities. The UEZ designation allowed the city to set aside half of the retail sales tax for promoting economic development. That funding was used to capitalize the new, larger RLF.
Program Characteristics
The Fund for Economic Development, because of its size and longer track record, is able to offer a variety of different loans to many different types of companies. The fund is able to make loans to small, medium and large businesses for expansion, job creation and job retention. The city also allows loans for seed financing of new lines of business including biotech and green industries. There are also programs in place for microloans and loans targeting minority and Latino businesses. Special emphasis is also placed on creating and retaining jobs that have incomes above the regional average.
Vineland has split their RLF into eight different sections. Each section/program has its own set of criteria and guidelines and focuses on different goals and market niches. This arrangement allows the city to offer financing assistance to a greater variety of businesses. The eight programs that comprise the Fund for Economic Development are:
- Standard Loan Program
- Cumberland Empowerment Zone Loan Program
- Vineland Redevelopment Area Loan Program
- Save Vineland Jobs and Business Loan Program
- Micro Enterprise Loan Program
- Loan Default Avoidance Initiative
- Pledged Loan Portfolio
- Line of Credit
Measures of Success
With a large capitalization and a diverse set of programs to meet the needs of a variety of businesses, Vineland’s Fund for Economic Development has a strong track record of success and has been sustainable for more than 20 years:
- Almost 17,000 jobs created since 1986 (full- and part-time).
- $55 million in capitalization.
- $117 million in loans have been made.
- Loan portfolio has leveraged $264 million in additional financing
- Growing partnerships with the private (12 participating financial institutions) and public (19 public/quasi-public organizations collaborate) sectors.
Summary
Revolving loan funds provide critical financing when credit access is limited, supporting the development and expansion of local businesses and other special initiatives. While a revolving loan fund cannot finance projects on its own, it is an integral part of the small business loan package. Borrowers benefit from flexible and favorable terms, and financial institutions enjoy lower overall risk. The results include new jobs, new businesses and a healthier local economy.
These four programs have succeeded in establishing viable and sustainable RLFs. Each is unique in its setup and administration, but they all excel in promoting new local projects, creating and retaining jobs and leveraging significant private sector investment in the community.
To learn more about these programs, use the links below:
For additional resources on RLFs and other financing tools, visit CDFA's Online Resource Database.
This article is intended to provide accurate and authoritative information in regard to the subject matter covered. The author and CDFA are not herein engaged in rendering legal, accounting or other professional services, nor does it intend that the material included herein be relied upon to the exclusion of outside counsel. CDFA is not responsible for the accuracy of the information provided in this fact sheet. The information provided has been collected from a variety of sources. Those seeking to conduct complex financial deals using the tools mentioned in this document are encouraged to seek the advice of a skilled legal/consulting professional.
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