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Meltdown 101: What is CIT, and what if it fails?

Meltdown 101: What is CIT, and what if it fails?

Candice Choi | Associated Press/AP Online

NEW YORK – You may not have heard of CIT Group Inc., but there’s a good chance you’ve shopped in stores that it helps keep in business.

The New York-based bank is one of the nation’s largest lenders to small and mid-sized businesses. Despite the scope of its customer base, however, CIT emerged from meetings with federal regulators Wednesday failing to secure the cash infusion it needs to avoid bankruptcy.

In turning CIT Group away, the Obama administration is betting that any ripple effect from the company’s demise wouldn’t pose a critical risk to economic recovery.

CIT Group is now rushing to raise billions of dollars in financing from debt holders, but Wall Street doesn’t appear confident that the company will pull through. On Thursday, investors sold off shares and drove down the stock price 75 percent.

As the company fights for survival, here are some questions and answers about how small businesses and the broader economy are affected by CIT Group.

Q: First of all, what is CIT Group?

A: It’s a century-old company that primarily provides lending to small and mid-sized businesses. To a much lesser extent, it also provides advisory services and leases out property such as airplanes and rail cars.

The company has been bought and sold a number of times over the years. Most recently, it was acquired in 2001 by Tyco International, which at the time was embroiled in an accounting scandal. To pay down debt, Tyco spun off CIT Group in an initial public offering in July 2002. CIT has been an independent public company since then.

Q: Who does CIT serve?

A: CIT says it serves more than 1 million business customers, most of them small or mid-size businesses.

The company’s clients run the gamut, but tend to be in industries considered riskier in the small business landscape, such as restaurants and retail. Dunkin’ Donuts franchisees and Dillard’s Inc. are among the company’s clients.

The bank is also the nation’s biggest lender for entrepreneurs and minority-owned businesses.

It’s not clear what percentage of the country’s small business lending market CIT Group holds, but the company is the ninth-largest commercial and industrial lender in the United States, according to Foresight Analytics.

As of March 31, CIT Group held 1.7 percent of the $1.4 trillion in commercial and industrial loans on bank balance sheets. (Those include loans to businesses of any size.)

Q: What role do small businesses play in the broader economy?

A: Small businesses provide about half of all private-sector jobs. According to the U.S. Small Business Administration, small firms generated 60 percent to 80 percent of net new jobs every year over the past decade.

Small businesses – defined as having fewer than 500 workers – made up 99.9 percent of the 27.2 million businesses in the country in 2007, according to the SBA. Just 17,000 were large businesses.

The odds aren’t great for small firms, however. The SBA says that while two-thirds of new businesses survive at least two years, only 31 percent survive at least seven years.

Q: If CIT files for bankruptcy, would its clients’ credit lines be immediately shut down?

A: That depends on the type of bankruptcy CIT would enter.

To reorganize under Chapter 11 bankruptcy, CIT Group would need to line up financing sources to enable operations to continue.

In the event that financing can’t be found, however, the company might have to liquidate its business and close down under Chapter 7 bankruptcy. That would mean clients would likely not be able to tap credit lines.

The impact of the latter scenario would be diminished since CIT has already been cutting back on lending in recent months. In March, CIT had $5.3 billion in credit lines to customers, down from $6.1 billion at the end of 2008.

Q: Where else could CIT’s clients get loans if the company failed?

A: There are 8,300 banks in the U.S., most of them healthy enough to offer loans to small businesses, said Bob Seiwert, senior vice president of the American Bankers Association’s Center for Commercial Lending and Business Banking.

“The market over time will fill the void. The challenge for CIT borrowers would be finding new lenders in a time frame that works for them,” Seiwert said.

Since many of CIT’s customers are in riskier industries, Seiwert said it could be harder for them to find loans given the tight credit market.

Q: How did CIT get into its current predicament?

A: At the height of the credit bubble, CIT Group made the mistake of straying into subprime lending and student loans, said Kathleen Shanley, an analyst with corporate bond research firm Gimme Credit.

The company quickly recognized its mistake and pulled back from those segments more than a year ago, but the damage was done. CIT tapped much of its own credit lines in March of last year, and ever since has had trouble finding funding, Shanley said.

The problem was exacerbated by CIT’s reliance on credit markets for financing, said Matthew Anderson, an analyst with Foresight Analytics. Unlike traditional banks, CIT can’t lean on customer deposits when it needs money.

And now, CIT is facing $7.4 billion in debt that’s due in the first quarter of next year.

At the same time, CIT has a higher delinquency rate on its loans than other banks. CIT’s delinquency rate for commercial and industrial loans was 5.4 percent at the end of the first quarter, compared with an average of 3.5 percent for all banks in the country, according to Foresight Analytics.

Q: What are the arguments for letting CIT Group fail?

A: CIT already received $2.3 billion in federal aid last December after converting to a bank holding company. CIT and its representatives have warned that a failure to provide additional government help could prove fatal to the small businesses that rely on it for money.

“The cost of a cash infusion is less than the negatives their failure would cause,” said Scott Talbott of the Financial Services Roundtable, which represents CIT and other big financial firms.

But CIT is one-eighth of the size of Lehman Brothers, which went into bankruptcy last fall after suffering massive credit losses. And Wall Street’s concern about CIT Group was relatively subdued – major stock markets didn’t really move much in response to the news about the company during the regular trading session.

Optimism about good earnings from big technology companies ultimately outweighed the concerns and pushed the market higher.

In other words, there doesn’t seem to be widespread panic that a failure at CIT would do serious damage to the markets or the economy.

A service of YellowBrix, Inc.