It’s news to no one that U.S. small businesses are experiencing tremendous volatility in 2020. An estimated 1,000,000 very small businesses will eventually close, (businesses with fewer than 9 employees) and 100,000 small businesses have already closed permanently due to COVID-19 related challenges. Small businesses are not alone in experiencing extreme strain; it also affects the financial services providers that extend loans, credit, and other services to these businesses.
Within this dramatically different economic reality, a common theme has emerged amongst financial institutions and fintechs: Traditional credit bureau data does not provide enough risk signal on small businesses.
A common theme has emerged amongst financial institutions and fintechs: Traditional credit bureau data does not provide enough risk signal on small businesses.
High-latency credit reports are not delivering timely insight for assessing small business risk exposure. Former Kabbage Chief Risk Officer Kaustav Das described the COVID-19 era of data realities, “Data freshness becomes increasingly important. You cannot rely only on bureaus, you need more real-time data like bank data, processing data, or other alternative data that captures recency. “
Das isn’t alone in these beliefs about data freshness and diversity. When Enigma polled small business credit risk leaders for our June 2020 State of Small Business Lending Report, 1 in 3 respondents described themselves as actively looking for new credit risk signals.
To help you evaluate which kinds of data are a fit for your organization, we’ve created an overview of some of the newest credit risk signals available.
Small business credit risk signals
Business Closures data
Business Closures data is a unique leading indicator of business distress. Business Closures data tracks the operating status of small businesses in near real-time — as opposed to a credit bureau report that might have a 60-day lag — allowing financial institutions to react more proactively to at-risk business.
Bankruptcies, Layoffs (WARN Act Notifications) data
There are few attributes that more definitively signal distress than Business Bankruptcies and Employee Layoffs data. Bankruptcies data is sourced from official court documents, while Employee Layoffs data draws upon WARN Act Notifications, which require businesses to publicly declare layoffs of a certain magnitude.
(Accurate) Industry Classification data
Many credit risk professionals in our June 2020 poll said they needed better industry data to understand how resilient or at-risk their portfolio businesses are. While industry classification data has long been available, the reality is that some industry data can be inaccurate or not specific enough to provide enough insight. Accurate, granular industry data lets you better understand the risk of any business you’re engaging with.
Spending and transactions data
Transaction data provides a window into how a business is operating. Tracking transaction data over time can alert you to abnormal revenue patterns or decreases in business activity, enabling you to predict defaults or distress further in advance.
Foot traffic data
Pedestrian foot traffic can also provide a window into the health of brick and mortar businesses. You can benchmark recent foot traffic activity against historical patterns to see how a business may be doing — based on traffic to that business or the broader pedestrian activity within a specific geography.
These are just some types of data you can explore and test for signal on small business credit risk. While financial institutions are facing significant challenges alongside their small business customers, there is now an opportunity to evolve new, innovative data strategies. Expanding beyond traditional credit report data will inevitably result in insights that don’t just mitigate risk, but also lead to new products and better customer experiences.