With an uncertain economy, small businesses are becoming more risk-averse when it comes to borrowing money. But newer methods are available that can help them access funds, as Penelope Rance explains
Small businesses aren’t borrowing, which means less cash flow within the SME community, reduced investment in growth and lower job creation.
It’s an oft-repeated concern, both by Government ministers, who need the economy to pick up speed, and those concerned about the ‘missing middle’, who want to see small firms grow into medium-sized businesses to fuel the UK’s economic strength. But is it a case of ‘don’t ask, don’t get’, or are small businesses being refused finance?
The answer appears to be a bit of both. According to FSB’s Small Business Index for Q3 2017, there was a sharp fall in successful credit applications, with only 63 per cent securing external finance.
Yet while lenders may be taking a more cautious approach again, only 12 per cent applied for external finance at all, the report found, and only 27 per cent of respondents expect to increase capital investment over the next 12 months. “Currently, only one in 10 small firms is applying for external finance,” says Mike Cherry, FSB National Chairman.
“That means less cash flow within the small business community to invest for growth and create new jobs.”
The situation is also compounded by a lack of understanding about just what sources of finance exist. “Many small business owners simply aren’t aware of all the finance options available,” adds Mr Cherry. “The lending environment is healthier than it’s been for some time, but there is still a perception hangover from the financial crash. Some small firms think they have no hope of securing finance because of the caution among providers in the years immediately after the downturn.”
This reliance on traditional finance helped crunch SME credit, when a formerly rich vein became exhausted. “In 2010, approximately 80 to 90 per cent of all small business lending was conducted by the five major high-street banks,” says Natasha Jones, Head of Corporate Communications at Funding Circle. “In the wake of the financial crisis, banks significantly retracted from small business lending, revealing just how fragile this ecosystem was.”
But the alternatives are out there. “We have seen an increase in alternative funding solutions,” says Conor Devine, Principal at GDP Partnership. “This gives SME owners more choice.”
And small business is starting, slowly, to respond. “The volume of business sent through banks is declining,” says Graham Moore, Head of Business Development at challenger bank Atom. “Statistics from UK Finance showed a 14 per cent drop in applications to banks, year on year, in Q2 2017. This could indicate companies not looking for as much finance, but I think it’s to do with having more options.”
Recognition of the options is crucial for firms that could benefit from securing external finance. A range of alternative lenders, each suitable for businesses at different stages of development, offers either debt finance, repaid at a rate of interest over a set period, or equity finance, which raises capital through selling a stake in the business to investors. In recognition of this, FSB is launching FSB Funding Platform, in partnership with Finpoint, in January 2018.
A good first port of call is the Business Finance Guide (thebusinessfinanceguide.co.uk), produced by the British Business Bank, which contains a breakdown of the options, as well as advice on making a successful application. The website includes an assessment tool to help business owners establish the best funding route for them. FSB Cash Advance can also help Business Essentials members access unsecured loans. Visit fsb.org.uk/benefits for more information.
The types of finance on offer include:
Challenger banks aim to arrange loans in a more transparent environment than their traditional counterparts. If a business doesn’t like the maze of terms and conditions offered by their usual lender, a challenger may have a more straightforward deal.
“High-street pricing is a bit like a lottery,” says Mr Moore. “The bank has targets, so it puts another 0.5 per cent on the bottom line, then the customer wants to meet halfway. It’s good if you’re great at negotiating, but they’re not pricing for risk. The first price we put out is always our best price.”
The Development Bank of Wales was established to make it easier for small businesses to access finance. The bank will use the £100 million Wales Flexible Investment Fund to offer loans, equity finance, seed finance for tech start-ups and property loans, as well as co-investment alongside other lenders.
In Scotland, businesses can take advantage of the Scottish Microfinance Fund, a Government initiative designed to support entrepreneurs as part of a wider £40 million programme to help small businesses.
Invoice financing can help bridge the gap between billing and payment while small businesses are building up working capital. When a payment is due in the future but the business will benefit from receiving the money earlier, the financier will fulfil the invoice, then share the payment from the creditor later.
Business angels are investors who buy a stake in a company, and are therefore motivated to help it succeed. These individuals or syndicates tend to back high-risk opportunities, such as start-ups, and can provide initial seed funding, or further rounds of finance to support growth spurts.
The British Business Bank is committing capital to investment funds to encourage equity investment in smaller businesses. These include the UK Innovation Investment Fund for high-growth tech companies, and the Enterprise Capital Funds, which use public and private money to invest in fast-growing businesses.
When a business has reached the level of needing to purchase, or expand, its plant or key equipment, but can’t afford the full purchase price, asset finance can be a good option. This is effectively borrowing against something that is owned by the business, such as machinery, in the same way as remortgaging a house can provide a cash injection.
Online platforms allow businesses to attract funding from a large number of individual investors, either in exchange for a share of the business or as part of a more traditional loan arrangement.
The Funding Circle model, by contrast, allows individuals, governments and financial institutions such as insurance firms and pension funds to club together to invest in many different companies. “You are able to access finance much faster than through traditional routes, while also benefiting from a flexible product offering,” says Ms Jones.
The new FSB Funding Platform provides members with a quick and simple online application that matches their business anonymously with the largest panel of business lenders in the UK. Visit fsb.org.uk/benefits for more information.