The relationship between the mid-market and high street banks is changing, Anthony Cooper finds after speaking to 2,500 FDs. Where are UK businesses looking for finance in 2012?
Increasingly, businesses are turning their backs on the big high street banks and seeking investment from other sources. The tightening of bank purse strings has been felt across the full spectrum of businesses, from small businesses to the mid-market.
Lending has been in steady decline for a number of years. As a result of the unsavoury economic climate, lending conditions have become such that companies need to navigate an obstacle course of red tape in order to qualify through the big banks’ application processes.
At Pearlfinders, we interview over 2,500 FDs every year about the challenges they’re facing. During these conversations, over a third of companies trying to fundraise detailed that they are now actively looking for support outside that of their usual avenues. This year, we have so far discovered that 22 per cent of those engaging in fundraising are turning to brokers, and 14 per cent are looking to private equity groups or venture capitalists in order to secure finance.
Mainstream lenders have introduced more selective lending and avoided operating in certain industries, despite the ongoing demand for finance. Industry and manufacturing is the UK’s biggest growth sector, and our quarterly indices revealed that from Q1 to Q2, demand for financing in the sector jumped from 17.5 to 29.6 per cent.
The pharmaceuticals and healthcare sector is consistently reaching out for funding, while consistently developing and releasing new drugs and products to the market. In our Q1 report, this industry in particular expressed interests in alternative financing such as private equity, rather than from banks, in order to secure the necessary funding.
While debt finance is still preferred across the board, the real cost of that debt has acted as a deterrent, and companies are increasingly choosing to borrow on the value of the current and fixed assets such as accounts receivable and machinery, or seek the funding from external parties.
Direct funding from a third party, be it from private equity firms or venture capitalists, is perfect for entrepreneurs whose businesses are at key stages of growth. Half of the FDs and CFOs we interviewed indicated that they were fundraising for growth, through company expansion or product launches. While venture capitalist funding is ideal for fledgling businesses at the earlier stages of launch and development, private equity firms can take an already established company to the next level by providing an injection of liquid capital.
That SME are shifting away from the high street banks is the best example of the damaged relationship between the two parties. There has been public outcry from small businesses amid claims that banks are neglecting the SME community upon which the UK economy depends.
From Q1 to Q2 in 2012, we observed an eight per cent jump in the number of SMEs fundraising to 53.2 per cent. Caught in what the Federation of Small Businesses calls the "perfect storm", the financial crisis has caused banks to leave many SMEs high and dry when it comes to lending for investment in growth, which the Federation has warned is essential for economic recovery.
Responsible for 65 per cent of innovation, 69 per cent of apprenticeships and 84 per cent of the country’s job creation, small and mid-sized businesses are responsible for half of the UK’s yearly GDP. It’s a dilemma to balance the desire to mitigate financial risk during economic uncertainty with the responsibility of nurturing the survival of SMEs.
The banks haven’t prioritised the latter, however, and as a result businesses have continued to falter on the path to economic recovery. A recent development has seen the banks engage in a referral service in which SMEs that don’t meet their lending criteria can secure small loans from community development finance institutions (CDFIs) – normally backed by the government.
It’s difficult to predict the long term affects of the reluctancy to lend to business. What’s clear, however, is that SMEs are the lifeblood of the UK economy. The current modus operandi of big bank lending will only harm the capacity of these businesses to weather the storm of recession and play their role in the economic recovery. FDs are crying out for suppliers that are able to help them solve challenges they’re faced including fundraising, cash flow management and taxation.