Finance for growth – can we bank on it?

Posted on 6 Aug 2010 by The Manufacturer

Industry and government have accused banks of starving small businesses of funding and making a private-led recovery from recession impossible. The banks say the money is there to borrow but there is little demand and even less viability. Mark Young weighs up the arguments.

The British Bankers Association says loans to small businesses are flat and, as a monthly average, are flailing behind last year’s levels. The Forum of Private Businesses says the value of its members’ loan and overdraft facilities is continuing to decrease. An Institute of Directors report found that one in three businesses are still being turned away by the banks when asking for finance of any sort, although the organisation did point out that this was significantly lower than last year when 57% said they tried in vain.

But the banks claim they are open for business.

Peter Ibbertson, NatWest’s chairman of small businesses, says the bank’s parent company, RBS, has £50bn worth of liquidity which it wants to disseminate to growth-hungry businesses. Those businesses just have to prove they are good for paying it back, he says. (Declaration of interest: RBS is sponsor of The Manufacturer of the Year Awards and Directors’ Conference.) Ibbertson was speaking at a NatWest Business Knowledge webinar in July, featuring a live panel discussion between himself, EEF chairman Martin Temple and outspoken former trade minister Sir Richard Needham, informally regarded as James Dyson’s right-hand man. His main message was that RBS wants to lend money to small businesses.

It’s in the bank’s remit after all, as a majority state owned firm, following its infamous taxpayer-funded bailout in 2008. Antecedent Chancellor Alistair Darling announced in April’s Budget that it and fellow bailed bank Lloyds TSB would have to lend £94bn to businesses this financial year, £45bn of which was to be reserved for SMEs.

Balancing act

By the same token though, the bank has to be more careful than ever. It does not want to be seen to be gambling with public money; ‘irresponsible lending’ was a charge thrown indiscriminately and damningly at all banks as one of the major causes of the world’s plunge into economic despair in the first place. Ibbertson said the bank needs just one in a hundred loans to go awry before the company begins to make a loss.

“The banks are there ready to support businesses that do want to grow, when they’re ready to grow,” he said. “The key thing is if you’re a manufacturer looking to do something three or four months down the line, come and talk to us now.

Involve us in those debates and talk to us about your cash flow. It’s a much better way than turning up at the last minute. It may be that traditional loans and overdrafts aren’t necessarily the best way to fund.” He says companies often turn up asking for loans immediately when they have run into trouble and often lack the necessary paperwork and proof they can pay it back.

RBS initiated a £1bn fund for manufacturers with much fanfare earlier this year but things have gone a bit quiet on that front since. When questioned on how much had been lent out of the scheme, Peter Ibbertson hesitated in putting down a figure, though he intonated that the scheme had not exactly been overwhelmed. He said that a slow take up could be down to the money being offered under fixed rate terms and this is a condition manufacturers may have found unfavourable while the economy remains unstable.

Needham, rarely a man to mince his words, interjected when Ibbertson declared that the banks — or his, at any rate — are “open for business.” The man tasked with turning James Dyson’s creativity into cold hard profits said three businesses he works with were “desperate for cash” but were turned away by high street banks.

The BBA’s figures make for grim testimony towards Needham’s case. In May there was £523m worth of new lending to SMEs. This is very consistent with the rest of the year: only March saw significantly more at £678m. The average monthly lending last year was £633m; in 2008 it was £991m.

BBA statistics director David Dooks gave little hope that the situation would be appeased quickly. “Until an improvement in economic trading conditions looks more certain, small businesses’ borrowing will remain subdued.”

Possible intervention

The situation has fermented with increasing vigour in the media in recent weeks, culminating in Business Secretary Vince Cable declaring in late July that the banks are “not acting in the national interest” by choking supply lines. His input came as he launched a consultation green paper, jointly with the Treasury, looking at the different ways banks might be encouraged to lend as well as the ways the city is regulated. “Left unchallenged, a lack of accessible finance for businesses could prevent the recovery accelerating,” he said.

The paper discusses the need to convince venture capitalists and business angels to invest more in the private sector, the possibility of more government backed loan schemes, increasing competition between banks to drive down rates and the implementation of regional stock exchanges in the UK’s largest cities. Speaking of “combinations of carrots and sticks that can be employed”, Cable intonated that executive bonuses could be vetoed if lending levels are not met.

The likes of Barclays and HSBC could argue, of course, that, in a free market economy, ‘the national interest’ is not their primary concern.

They required no propping up from public coffers.

However, Cable has warned that he may lean on such banks to adhere to similar targets to those that have been set for the part nationalised banks.

A Barclays spokesperson was staunchly defensive of the bank’s lending record to small businesses. “In 2009, Barclays advanced more than £14bn in new term loans to businesses ranging from SMEs to corporates,” he said. “We have a strong appetite to lend and are working proactively and inventively to ensure as many businesses as possible are appropriately funded as they prepare for growth, while retaining a sensible approach to risk.” He said the bank has been “pioneering” by converting £450m European Investment Bank (EIB) support into loans for businesses with 2.5% cash-back.

Cable’s report, Financing a Private Sector Economy, suggests firms may have to consider using more equity to free up cash, seemingly reiterating Ibbertson’s point that firms might have to look ‘outside of the box’ slightly. He offered invoice financing as one such move. “People tend to think of this as a last resort but the fact is we can now pay up to 80 per cent of invoice value. You might get a lot less than that if you chase your own.”

Two sides to every tale

The BBA’s chief executive, Angela Knight, recently warned that one reason why bank lending to SMEs is flat is that demand simply isn’t there. Cable’s report acknowledges this point. “…demand for loans naturally declines during a recession, as businesses cut back on inventories and capital investment, and build up cash reserves,” it states.

However, the Forum of Private Businesses has hotly contested this premise. In a survey covering to the end of June, only 1% of its members say access to finance has improved, while 15% say it has worsened. Some of its members reported reductions of more than 50% and even complete cancellations to their overdraft facilities.

“Contrary to what some of the banks are saying, some firms are still not able to access the finance they need and both business growth and economic recovery is under threat as a result,” said FPB head of policy, Matt Goodman. “According to our members, demand is certainly there but lenders are not providing the funding or the levels of service that they should be. They are telling us that creeping costs and charges are making finance that is available less accessible.”

Enterprise finance guarantee

In a recent survey by The Manufacturer, many respondents said they had been put off finance deals by the amount of security banks were requesting. This was also a finding of the IoD report. To this regard, the IoD has questioned the role of the Enterprise Finance Guarantee scheme: a programme introduced by Labour in late 2008 which sees government as would-be guarantor for three quarters of the money put up on a business loan. It is available for businesses with turnovers up to £25m and can be used on loans from £1,000 to £1m. Government put a pot of £1.3bn aside for it, to run until April this year, but has now extended the scheme for another year with a further £500m.

Miles Templeman, director-general of the Institute of Directors, said: “The survey indicates that some access problems relate to lending criteria becoming more restrictive with regard to the amount of security requested by banks. This raises a question about the functioning of the Government’s Enterprise Finance Guarantee scheme (EFG).

“The IoD would like the Government to clarify the relationship between the state-backed guarantee scheme and bank requirements for personal security. We continue to hear from IoD members who’ve had 75 per cent of a loan underwritten through the EFG but who are still required by their bank to put up personal securities equivalent to over half of the loan value. Of course businesses should have some ‘skin in the game’, but this seems excessive.” Angela Knight accused the IoD of misleading the public with “dodgy statistics”.

Ibbertson says RBS has lent out “around half” of the enterprise finance guarantee scheme so far — a figure that equates to around £400m. It is one of 27 lenders involved in the scheme. Barclays is responsible for £165m through the scheme.

It appears that two factions are looking to each other to lead us all back to the promised land of profitability and growth. The banks say the economy — and confidence in it — must improve before lending begins to flow once more.

Government and the media say it is the duty of the banks to kick start the economy. The banks have promised to investigate why exactly lending has fallen flat but that may not be enough. Vince Cable’s consultations will be looking to draw its own conclusions and some forceful hands could potentially be played if it is deemed the banks need a little inspiration. Throughout the recession the Conservative party has taken the view that, left to their own devices and with minimal state intervention, markets will right themselves in the long run. Now it is in power and is implementing this strategy, it may have to make some very contradictory moves in order for its overall ideology to have a chance.