A few ‘tweaks' would make it easier to lend to small businesses

Times

14 hours ago

As the government focuses on backing key sectors it believes can kickstart Britain's sluggish economy, The Times is running a five-day series exploring what business leaders in these industries need if they are to deliver the growth ministers are searching for. Here, entrepreneurs in the financial and professional services sector explain why attitudes towards external capital and regulation must change
Funding is a perennial problem for ambitious entrepreneurs. Most can only take their idea so far, and only grow so fast, without the leverage provided by external capital.
Banks and investors in the UK are often criticised for their perceived lack of risk appetite, generally preferring to back larger, more established businesses or residential mortgages.
Ison Travel, which organises travel, accommodation and events for corporate customers, made two acquisitions last year that doubled its annual revenue. Helen Cannon, founder and chief executive, does not think she would have been able to strike either of those deals had Ison not had some profits to reinvest.
'It's all been self-funded,' she says. 'When we were looking at the acquisitions last year, we did consider [outside investment] and spoke to a few different companies, but it isn't easy. It's a long process and there's an awful lot of red tape and so many hoops to jump through.'
While there's a debate over whether it's supply or demand of finance that's to blame, Cannon's views are increasingly common among British businesses, with the long-running SME Finance Monitor consistently showing a growing proportion of companies preferring to grow under their own steam rather than seek external finance. That has prompted concerns about the implications for growth and productivity; less external finance usually means slower growth and less investment.
Richard Davies, as chief executive of Allica, a specialist challenger bank , knows more than most about lending money to small and medium-sized businesses (SMEs). He says major high street banks have pulled back from the SME market in recent years.
'Their business model is either for millions of consumers and micro businesses, or for 20,000 large corporate businesses, but neither of those models works for the bit in between,' he explained.
• Lending gap for small businesses 'is hurting UK's growth'
Lending to British SMEs is now £90 billion lower than it would have been had it followed levels recorded between 1997 and 2004, research by Allica has found.
Allica, and some of its peers, are trying to plug that gap. Allica has more than £3 billion in loans out at the moment, almost entirely to smaller companies. Last year, Allica was named Britain's fastest growing private company by the Sunday Times 100.
It could be growing even faster, Davies says; he could increase lending by another £500 million this year if the government and regulators made some 'tweaks' to capital requirement rules.
As a challenger, Allica lends only in the UK, but that means it must hold a higher percentage of liquid capital on hand than the big banks which are perceived as being safer because they operate in many different countries.
'I'm not sure if you're a small bank that [the regulator] should be saying 'go and lend in lots of countries because that's going to be safer',' he says. 'It makes no sense to me. If that was changed, I could lend an extra £400 million or £500 million to SMEs this year.'
Crowdfunding platforms are also trying to fill the financing gaps left by mainstream banks, but Bruce Davis, a fintech entrepreneur and chairman of the UK Crowdfunding Association, believes they are being held back by too much bureaucracy.
To get involved with crowdfunding, people need to pass an 'appropriateness test' introduced by regulators, which is failed by close to half of those who apply. It has had a dramatic impact on the market.
'What we've seen is a big drop-off in terms of people wanting to go through that process, which we've argued is overkill,' Davis says. 'The government wants more innovation and more growth, so the [Financial Conduct Authority] is looking again at how it defines high-risk investment. It wouldn't need a lot of changes to make [partaking in crowdfunding] simpler without removing the safeguards.'
There is a 'lighter touch regulatory regime' for crowdfunding in Europe, where there are hundreds of platforms and a 'bigger pool of investors', Davis says. His concern is that UK businesses will inevitably be competing with European peers which have access to more investment.
'I just think we are constraining UK businesses. If you're a UK business in artificial intelligence, for example, and you're competing with a French AI business and you're finding it harder to raise capital, you're going to lose.'
That is not what the government says it wants. As part of the industrial strategy it published this summer, the government has promised to support small, fast-growing businesses which have the capacity to punch above their weight in helping to deliver growth.
Ultimately, the government wants its industrial strategy to help push today's ambitious SMEs to the next level.
Labour has promised to 'slash red tape' to drive growth but onerous paperwork and box-ticking is still bemoaned by many bosses, including Aminash Patel, chief executive of Penta Consulting. Penta, which finds skilled workers for technology companies including Microsoft and IBM, employs and contracts 800 or so people in 12 offices across Asia, the Middle East and Africa.
'Because our business is across many different geographies, the mobility of our people can be quite difficult,' Patel says. 'We could have one of our consultants who is working in the UK for six months but then they may have to go off to mainland Europe for a year and then maybe go over to the US. Some of the red tape around cross-border movement of our employees causes a lot of delays for us.'
Those delays, he thinks, are only getting worse. 'It's taking longer to get clearance and visas and work permits — it's not flowing as quickly as it used to. Ten or fifteen years ago you could deploy people [to other countries] much faster and more easily with less paperwork and justification.'
Davies, of Allica, shares Patel's frustrations about the speed of decision-making and receiving feedback from regulators and officials. Back in 2013, the government launched a start-up unit to help new banks go through the authorisation process, which Davies says has been a 'big success'.
The problem is that once a bank has established itself but is still growing quickly, such as Allica, 'there's nothing there' to help. 'We've been big advocates of a scale-up unit to ensure you've got high-speed and high-frequency interactions with regulators,' he says. 'Ironically, most fintechs want more interaction with regulators, not less. We want resolution [on issues] really quickly, we don't want to wait nine months, we want it resolved in a few weeks.'
Cannon would also like support from regulators and the government to be easier to access, particularly in the early days 'which can be really lonely'.
She points to research and development tax credits as an example. 'We've never used any and I don't know how to access them or whether we even qualify. It'd be great if there was someone there to help you.'
• Debt load of businesses seeking finance is double pre-Covid level
Patel, meanwhile, would have liked more support from the government when Penta made an international sales push. He did find advice, but from various trade bodies and organisations rather than official channels. 'It's not something the government has made available to us. There's been a lot of self-teaching,' he said.
'If you're a UK company and you want to go and sell your products or services in four or five other countries, where do you start? Some help around understanding the tax implications or the restrictions [of operating overseas] would make sense.'
Davies says the UK's growth challenge must be tackled at its roots, by doing a better job of educating entrepreneurs that external finance is not a bad thing. That attitude towards debt is 'a UK problem' and not one really seen in other countries, particularly the US, he says.
'There's been a really big hang-up from the financial crisis and things like Royal Bank of Scotland's restructuring division screwing businesses,' he says. 'The statistics are shocking: the Bank of England found that four in five businesses would rather grow slower than borrow to grow faster. Banks and the government have got to get businesses feeling confident to borrow to invest again.'
'It's a real grind trying to raise single-digit millions because the pool of available capital is so much smaller,' explains one City stockbroker, whose job it is to help companies — typically on the smaller side — drum up fresh investment.
It is a common gripe among growing businesses, how difficult it can be to attract the investment they need for the next stage of growth.
The feeling in the City is that there are a few reasons for this, including what one senior dealmaker describes as a 'hangover from Woodford'. That is a reference to Neil Woodford, the one-time star fund manager whose Woodford Equity Income Fund collapsed in 2019 after putting too much money into smaller, illiquid businesses.
Scarred by that scandal, anecdotal evidence from bankers suggests that fund managers have moved 'up the food chain' and are backing fewer small companies as a result.
Simon French, chief economist and head of research at Panmure Liberum, the stockbroker, agreed that Woodford has affected the investment industry but believes there are other 'structural challenges' that are limiting how much funding is being directed at the smaller end of the market.
'Wealth managers and pension funds have also consolidated so you've got much larger asset managers out there and their propensity to invest in a small company is rather limited,' he says. 'If you're running billions of pounds [of savers' money], buying a 20 per cent stake in a £20 million company is only £4 million. Just because of the economics, you're not going to do it.'
The de-equitisation of the London stock market also means there is just less money earmarked for equities. At the peak in 1990, pension funds had 40 per cent of their assets invested in UK stocks, but that has fallen to only 3 per cent. That trend partly reflects defined benefit pension schemes moving money out of stocks and into lower-risk government bonds as more of their members hit retirement.
French thinks he has a solution: UK pension funds with more of their assets invested in UK equities should receive greater tax relief than those which do very little over here.
'I think we should say [to pension funds] that they can invest wherever they want, but if they only want to buy an S&P 500 tracker, they're not going to get the same scale of tax relief as if they're a pension scheme investing 90 per cent in the US but 10 per cent in the UK [stock market]. A pound invested in IQE, a semiconductor manufacturer in South Wales, has a different economic impact to a pound in Nvidia.'
On Friday: Advanced manufacturers on the difference between political rhetoric and the real-world barriers to growing in the UK