The funding landscape for SMEs

There is a myth promoted by some in the banking and financial services community that small businesses are being starved of cash, and that funding is becoming increasingly difficult to access with the banks having completely turned off the taps.

It is true of course that the value of overdraft facilities available to SMEs through their banks has halved since 2011. And that, overall, banks have tightened their lending, preferring to go down a route of structured loans.

Where overdraft facilities are offered, they are usually extremely expensive, and this has naturally had an effect on the availability of working capital; in turn, driving the need for extra cash.

The High Street banks have certainly appeared to run scared of SMEs for a time and have arguably taken their eye off the ball, being slow to embrace new technologies and quickly being overtaken by their ‘challenger’ counterparts.

This perfect storm has encouraged the Alternative Lending community, who can be quicker in responding to the needs of SMEs, and more imaginative in their proposition.

But despite the rise of alternative lenders, banks continue to be the first port of call when an SME is looking for finance. A recent survey by Liberis Finance – with 400 SMEs from the retail, restaurant/café, hotel/B&B, health & beauty and arts & entertainment sectors – found that 59% of respondents accessed finance through their banks compared to only 11% from an alternative finance provider, 9% public sector grant, 8% government lending body, and 6% via venture capital.

While banks may have been vilified in the media for ‘abandoning’ SMEs in their hour of need, it appears those same SMEs either have short memories or are quick to forgive. Reputation, size, and previous good behaviour were all still important factors considered by small business when searching for funding, as was trust.

Of the businesses surveyed, 18% said they chose funding from their bank because they don’t trust other types of lenders. That is a concern, but perhaps a greater concern is that 15% said they were unaware of other types of funding being available at all.

Challenges facing SMEs

SMEs need funding for different reasons. For some, it is about investment and growth; not every story from the High Street is a disaster and not every retailer is failing, though you may be forgiven for thinking otherwise.

For others, it is about cashflow; late payments from larger customers is a perennial problem, despite Government interventions and initiatives such as the Prompt Payment Code. But even when there is certainty of payment, there is s still often a funding ‘gap’ that needs to be filled.

Our research found that while nearly two thirds (62%) of businesses see funding as a method to grow, only about half of them actually make use of the funding options available. And of those businesses using funding, 20 – 30% face a funding gap in not being able to borrow the full amount, or not indeed not being able to borrow at all.

This not only puts pressure on working capital and growth targets, but also on day-to-day business and recruitment. Businesses are not able to hire the people they need to succeed, buy the stock their customers demand, or invest in the marketing that gets their businesses known.

The most common reason for accessing funding was to acquire new equipment, but marketing investment and new product development were also important. This differed by sector, of course. For those in the hospitality sector, for example, the ability to invest in employee benefits and training are critical. Thankfully, funding is not just about the bad things in life such as paying the tax man!

SME funding options

So, for a business with the appetite to grow, what can the Alternative sector provide? Many of the options available have evolved to answer a specific need or solve the funding challenges of businesses working in specific sectors.

For example, if you are an SME struggling with late payments, Invoice Finance (typically factoring or invoice discounting) is often a cost-efficient and straight-forward way to mitigate these challenges.

With factoring, the Factor agrees to pay an agreed percentage (80 – 85% is common) of approved debts as soon as they receive a copy of the invoice. The balance is paid when the customer pays, minus a fee, and the Factor takes responsibility for the credit management and collections activity of the business.

Similarly, invoice discounting provides immediate cash for up to 80 – 85% of the approved invoice, but the sales ledger and credit management activity remains the responsibility of the business. Factoring is not without its risks as the Factor legally own the debts, meaning that the invoices raised count as their assets rather than those of the business.

Businesses with assets such as property, machinery, plant and stock – car dealerships, engineering businesses, steel holders and manufacturing companies for example – are often well suited to asset-based lending, where funding is provided and secured against the value of the asset.

Peer to Peer lending platforms have also been developed to match lenders (these could be private individuals, businesses etc) to borrowers; and lenders will often provide lower cost funding than ‘traditional’ financial institutions.

Crowdfunding as a means for funding has seen a notable surge in popularity over the last 10 years, with technology and social media driving awareness and ease of use of its platforms. Each has its own rules and regulations to consider though. For example, Kickstarter and Fundable require you to meet or exceed your stated goal to receive any money, while others like Indiegogo will let you keep whatever you raise.

They also differ in fees, commissions and the sorts of businesses they specialise in, so it’s important to choose the right platform for your business. Crowdfunding as a whole is also best suited to funding large projects and product launches, rather than to cover everyday expenses and purchasing stock.

With necessity being the mother of invention, technology is being used to develop even more innovative funding platforms to serve different parts of the SME community in new and exciting ways.

Liberis Finance, for example, provides a product called Business Cash Advance, a short-term funding solution that’s designed specifically for card-taking businesses, with payments linked seamlessly to an agreed percentage of their customer card transactions.

Retail, hospitality and health and beauty are amongst the many sectors that benefit from this form of funding, particularly as asset-based lending is often not an option. Through the Business Cash Advance, a business is able to manage its cashflow and financing according to the money coming into the business.

Seasonal businesses in particular – such as a school uniform supplier for example, where August and January constitute by far the busiest sales periods – benefit from this type of innovative option as their repayments never balloon off-peak as they might do with a credit card or fixed loan.

Funding advice

There is much SMEs can do to help themselves to better manage their cashflow and, in turn, maximise the funding options available to them. Best-practice credit management is essential, agreeing payment terms in advance and not being afraid to ask for money that is rightfully theirs. Getting your house in order before seeking additional finance is also key to better understanding how much additional funding you need and exactly what you want to achieve.

Credit scores are, of course, extremely important when accessing funding and it’s likely that both your personal and business credit scores will be looked at during application. There are numerous companies that provide this service including Experian, Equifax, ClearScore and Creditsafe; each will charge differently for their services.

In terms of understanding funding options, there are numerous government schemes providing financial support for businesses, for example in support for sustainable investment such as the Grant for Business Investment and through the British Business Bank. Similarly, aggregate platforms such as Funding Options and Alternative Business Funding can also provide useful tools in terms of assessing which funding option is best suited to a business.

Our main message is a positive one, the funding is available, and there are numerous responsible and specialised alternative finance providers out there that can help support SME business growth.

 

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