The relationship between business owners and external finance

Businesses in the UK have had a roller coaster relationship with external financing over recent years.

Those using the wide variety of funding options share corporate finance professionals? view: it provides an excellent source of funding for growth, with the added benefit of introducing businesses to insightful investment partners.

However, this view is not shared universally among business owners. Many remain reluctant to share a stake in their business.

This unwillingness was highlighted recently in the sixth quarterly SME Finance Monitor, which revealed that over half of all SMEs neither use any external finance, nor have any immediate plans to do so. Instead, 44 per cent had injected personal funds from the owners/directors in the previous 12 months.

At first glance, the figures may not seem surprising. After all, why would business founders choose to share a portion of their equity in return for a cash investment? In the past, they could have taken on traditional bank loans or public sector grants ? sources of finance that they know and understand.

But actually, there are a number of reasons why external finance could be the answer.

One type of finance which is underutilised, is private equity. This is distinct from other types of investment in that it is money with management. An investee can access invaluable insight and advice from a range of experts in their own fields, whether it?s marketing, finance, or distribution.

Companies that started out small have grown exponentially through private equity, or venture capital backing. One such example is award-winning online marketplace, which in May 2012 secured ?10m through venture capital investors. The company is now valued at almost ?100m.

We have been dismayed to learn of business owners who admit to changing their entire strategy to suit the bank funding available, rather than look at other sources of finance. This is both counter-productive and unnecessary.

Instead, they could have looked towards other sources of finance including private equity, which provides capital for accelerated growth and should be used when an entrepreneur becomes aware of the opportunity for a step change to their business and sees the need for outside help. A business with the potential for explosive growth could be funded efficiently by private equity, while the risk profile would be too rich for a bank.

While bank lending remains low, growth is creeping back onto many corporate agendas, and we expect to see the deals market pick up at a slow pace. By looking at wider funding solutions rather than waiting for banking funds to become more accessible, entrepreneurs will help accelerate that recovery.

The angel investment market is another very viable source of finance. We are seeing an emergence of these investors seeking to create their own portfolios, and we expect more deals involving angel investors to be carried out over the next 12 months.

As we enter 2013, we are witnessing a turnaround in attitude towards external finance. Many business owners have come to the realisation that, with cash depleted on the balance sheet and a less than enthusiastic appetite from the banks to lend, they have to widen their funding sources. For most, their only other alternative is to accept, at best, a period of stagnation.

Paula McGrath is a Corporate Finance Partner of Brabners Stuart LLP.

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