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In November 2008, Donn Flipse was forced to close one of his three flower superstores in Florida’s Broward and Palm Beach Counties. Nine months later, Flipse expanded by acquiring the business of a retiring florist in a wealthy section of South Miami. Those two events normally would have led Flipse to lean on his $500,000 line of credit. But that credit line had been personally guaranteed by a family member who, because of a decline in that person’s own finances, was unable to continue the guarantee. Flipse paid off the revolving loan with “the only thing available”—money from two of his grown children, both of whom are shareholders and sit on the company’s board. Now, for the first time in its 19-year history, Field of Flowers, which employs 46 people and expects to bring in $6 million in sales this year, doesn’t have bank financing.

Like thousands of other small business owners with good credit histories, Flipse also found his credit-card companies lowering his limits. He plans to pay back his kids in early 2010, after the Valentine’s Day and Easter rushes bail him out. “There was no choice,” he says. He recently had to lay off two of six headquarters employees, leaving the dispatcher running the computer system. “We’re not thrilled about any of it. But the company’s a part of our lives.”

It’s not news that small companies are scrambling for credit, or in some cases, for equity investors. Entrepreneurs even appear to have caught a much weaker strain of the same virus—leverage—that helped bring down Lehman Brothers and many individual homeowners. From 2003 to 2008 the liabilities of small companies ballooned from roughly equal to sales to three times sales, according to Sageworks, a financial data company that tracks 1 million small private businesses. “In the crazy times, people were like drunken sailors—they’d project that in two years they’d double their earnings, [so they would] overvalue their companies, and as owners in love with their businesses, take on debt, right or wrong,” says William Lenhart, national director of business restructuring at BDO Consulting, which advises companies with $10 million to $15 million in sales. “They got away from the historical debt-to-equity parameters of their industries.” Banks and credit-card companies did their part, too, heedlessly throwing offers of credit at entrepreneurs. Some 636 million business credit-card offers went out in 2007, according to Packaged Facts, a research group. That works out to about 27 offers mailed to each company in the U.S.

Now, morning-after realities are prompting a rethinking of the relative merits of debt vs. equity. A rising sense of conservatism says small companies should be far less leveraged than was thought prudent 18 months ago, and should have much more generous debt-service coverage ratios. This measurement is a favorite among bankers because it cuts to the chase: Will they get paid or not? “There’s a weeding process going on,” says Joseph Harpster, chief credit officer at Herald National Bank, a New York community bank. “Banks have to be more careful.” There’s also a shift in thinking about a company’s optimal debt-to-equity ratio, or its level of debt compared to shareholder equity. Instead of financing to expand, it’s now about stashing away cash and trying to stay solvent.

Some business owners say ratios are an accountant’s problem. That’s not smart, says Dileep Rao, president of Minneapolis’ InterFinance Corp, a venture-finance consulting firm, and professor at the University of Minnesota’s Carlson School of Management. “Running your business without knowing your numbers is like driving a car without being able to see your direction or speed,” says Rao. “It’s only a matter of time before you crash.”

The terms “debt” and “equity” get tossed around so casually that it’s worth reviewing their meanings. Debt financing refers to money raised through some sort of loan, usually for a single purpose over a defined period of time, and usually secured by some sort of collateral.

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