BANKS are seemingly back in the business of corporate lending – and not, it appears, just to the select few, spelling good news for cash-starved finance directors and posing questions over the role of alternative lenders in a more liquid environment.
According to the British Bankers’ Association (BBA), bank lending to non-financial businesses delivered a net £1.6bn increase in March 2015 – the highest upturn this year – while borrowing for April rose a further £0.3bn, prompting some banks to suggest that new life has been breathed into the corporate lending market.
Lending to small business is also on the up. Banks extended an extra £600m of credit in the first quarter of the year to small businesses using the Bank of England’s Funding for Lending Scheme. Launched in 2006, the scheme was set up in mid-2012 and later amended in 2014 to provide cheap money to banks on the condition that they lend to small businesses.
The figures were welcomed by market watchers and suggest that the lending market has “turned a corner” as the economy benefits from the renewed stability created by the election of the first Conservative-majority government since 1992. The government, explains Will Banks, consultant director at Blue Horseshoe Treasury, “has recognised the constraints on SME lending and encouraged a fresh attitude in the banking sector as a whole and of new entrants to the market”.
A challenge to the status quo
Since the financial crisis, banks have been criticised for failing to support businesses as a combination of toxic loan portfolios and higher capital requirements encouraged them to take a miserly approach to lending and retain the cash on their balance sheets. These restrictions inevitably led to the proliferation of non-bank lenders and challenger banks as finance directors sought for alternative sources of finance.
One recent entrant, Metro Bank, is lending more money than a year ago, Richard Saulet, its director of SME finance, tells Financial Director. Founded in 2010 by US financier Vernon Hill, Metro Bank was launched as a challenger to Britain’s quartet of established lenders, and has seen its lending book grow substantially “as the messages get out into the market concerning what we’re about”, says Saulet.
He adds that there is always the potential for some jitters ahead, while suggesting that Metro Bank is a popular alternative to the traditional “Big Four” high-street banks: Lloyds Banking Group, Barclays Bank, HSBC and the Royal Bank of Scotland (RBS).
“There are [financing] options, but they aren’t more of the same because there are different providers to support and grow your business,” says Saulet. He claims that challenger banks bring in a new level of competition which widens the range of choice of where to find loan and corporate finance today.
Competition has increased because the length of the process of obtaining a banking licence has been shortened from years to months. According to the Financial Conduct Authority (FCA) and the Bank of England’s Prudential Regulation Authority (PRA), this has led to five times as many businesses applying for banking licences than in 2013 and has spurred on the likes of challenger banks such as Aldermore, Shawbrook, Cambridge and Counties, and Metro Bank.
“These banks have realised that it’s hard to obtain financing for some businesses, and so they have offered this service as part of their banking business model’s unique selling proposition,” Banks says.
Reduced requirements for smaller banks also mean that they only need to hold about £1m in capital instead of the previous expectation that they should maintain a financial reserve of £5m. A fast-track process was also introduced to allow licences to be approved even while the banks themselves are being set up, thus making it easier for new entrants to enter the market.
“This development has helped businesses to turn the corner from the financial and economic troubles they’ve been experiencing since the 2008 credit crunch, and I don’t foresee any further economic troubles ahead for business lending – on the contrary, I only see it improving, and even with a base rate rise,” Banks claims.
He also believes that businesses have become quite sophisticated due the difficulties they had in raising finance in the past, but the challenger banks’ business models are quite simple and transparent, in his view. The spectre of 2008 has therefore passed in his opinion, and the cut in red tape gives business lending a positive future.
No reverse gear
Nevertheless, alternative lenders remain bullish about their prospects despite the emergence of a more liquid environment. Prior to 2008, it was much easier for a start-up to raise capital through the banking route but, in the ensuing years, start-ups have been forced to look at alternatives like crowdfunding, while others have turned to asset-based lenders and fund managers.
A survey of finance directors, undertaken by Financial Director and Manchester Business School last year, found that only about a quarter of FDs use alternative non-bank funding, although this is set to rise as alternatives become ‘less’ alternative and more mainstream, with 45.5% of respondents claiming they are considering increasing their borrowing from this source. Businesses in the UK received an all-time high of £19.4bn in funding through asset-based finance in last three months of 2014, an increase of £1.6bn on the same period a year ago.
Indeed, Peter Ewen, chairman of the Asset Based Finance Association, believes the loss of market share of traditional lending since the credit crunch may prove to be permanent. In his opening address at the ABFA Annual Conference on 3 June, Ewen suggested that traditional lending may never return to pre-recession levels, as banks and other funders increasingly prefer asset-based finance and other forms of alternative finance to fund growing businesses.
The capital-holding requirements contained in the Basel III regulatory framework incentivise lenders to write secured lending rather than unsecured traditional lending – helping drive this shift to types of lending that are less risky to the funder, Ewen said.
“Traditional lending is still falling far short of pre-recession levels, and banks and other funders are rightly more cautious of unsecured lending. With invoice finance and other forms of asset-based lending offering borrowers so much flexibility, it is hard to see why the trends of the past seven years should reverse,” he continued.
But at a time when traditional banks are making a comeback to the lending markets, why would a company seek out alternative forms of finance?
“What tends to strike a chord with the chief executives or company boards is the tenor of debt available from alternative lenders – usually up to ten years, a term that banks simply can’t offer to corporates,” explains James Pearce, head of direct lending at M&G Investments. “This enables a company to align a proportion of its debt with its long-term strategy and liabilities, or finance longer-term investments to enhance future growth of the business.”
Banks adds that CFOs should complete risk and reward analyses to aid their ability to make sound financing decisions. Saulet counsels finance directors and CFOs to find an advisory partner in the sphere they are interested in. A partner can advise their businesses about which type of finance is best for their business at any particular time, as needs will change.
With this in mind, Banks’ advice for financial directors and CFOs is: “Never just turn to one sort of finance; they should seek whatever is good for their business by balancing their commercial objectives with what is visible in the market – this might be debt financing or the raising of additional share capital.” ?
Non-bank lenders recorded 50 deals in the UK and mainland Europe in the first quarter of 2015, up 43% on the 35 deals last year. Of the 50 deals, 28 deals were in the UK, the highest number since the Alternative Lender Deal Tracker from Deloitte began.
According to the tracker, 33 of the 50 deals had M&A as the deal purpose in the first quarter, compared to 17 (of 35) this time last year. As M&A activity in the US hit an all-time monthly record in May, Deloitte expect that more US companies and PE sponsors will look to acquire assets in the improving European market.
The upper mid-market (from €300m-€500m – £220m-£367m – of debt) is opening up for alternative lenders as they take up large single-hold positions (up to €300m) in a directly arranged transaction between borrower and lender, higher than where banks would usually hold.
Floris Hovingh, head of alternative lender coverage at Deloitte comments: “This is likely to take alternative lenders to the next level as larger borrowers have a choice between a bespoke direct lending solution versus an off-the-peg capital markets product. “Another innovation in the market is US-style transactions with no maintenance covenants (triggers) reaching the shores of Europe, with a small number of direct lenders now offering this flexibility. The direct lending market has become a melting pot where products from different debt markets are fused together.”