29 November 2016
Dr Norman Price, OBE, Chair of Birmingham Science City and Chair of Regional Finance Forum
Access to Finance is a perennial need and challenge for small and medium sized enterprises (SMEs). This post summarises the current status of access to external finance (not grants) of less than £2million and associated activity for SMEs both at the Local Enterprise Partnership (LEP) and West Midlands regional level. This summary has been put together with members of Regional Finance Forum (RFF) and the Cross-LEP Finance Group, and draws on the reports mentioned at the end of this blog.
This document must not be seen as totally comprehensive and authoritative as it is a complex and changing scene. Web provided throughout this blog are a good and necessary check if any approaches or schemes are to be pursued.
1. Banking relationships and products:
- Normal lending. Bank lending is still tight for SMEs. There is recognition by Government that banks are having difficulty lending to SMEs, affected by the new capital rules and the prevalence of risk adjusted credit assessment. Supply dropped in spite of initiatives designed to reduce these constraints, but recently there has been some improvement. The small business community believe that beyond banking weaknesses there is real inherent market failure in this space which needs public intervention. This will be worse now that Brexit is imminent as EU money was crucial in helping to fill the market failure gap. ( see reference).
- Banking Referral. The Chancellor announced that from 1 November 2016 ‘refusing banks’ must refer requests to 1 of 3 broker mechanisms accessing other finance, namely Funding Options; Funding Xchange; Business Finance Compared. This new referral system which is statutory after an unsuccessful voluntary arrangements, is being overseen by British Business Bank and its web site shows more detail. It has developed from government consultation with small business, particularly the Federation of Small Business (FSB). We all encourage this approach with interest.
- Bank of England are studying small firm funding, amongst other things, and ran a regional forum in October 2016 in Birmingham which was attended by many individuals active in the market. RFF members contributed and have also had separate meeting with officials.
- Other Banks. There is recognition by intermediaries that different banks are operating differently, with varying degrees of appetite and imagination, and a range of personal approaches; this variation is not always explicitly acknowledged. The RFF believes that there are many companies constrained by cash and the issues are that banks do not wish to lend without security, or at rates that get nearer to the actual risks, and are affected particularly by the risk constraints imposed by official regulation and their shortage/cost of local competence to make detailed assessment. Trust of banks is still low, reinforced by recent Royal Bank of Scotland disclosures.
- Guarantee schemes. Enterprise Finance Guarantee (EFG) Scheme continues supporting the main banks while two local CDFIs (see definitions and detail below): BCRS and CWRT are accredited and ART and Impetus are in course of accreditation. The offers nationally are now at the reduced rate of around £300m/year. Whilst there are many complaints particularly around the demand for personal guarantees as well as the EFG, it is still an important option for companies, in particular where security is scarce. It has full national distribution (nominally), is one of the largest public interventions and is a real recognition of the inherent market failure possibilities, as it is also in other countries. There has been publicity about Banks miss-selling but actually the situation is much more complex, with arguably the government restrictions and demands being the main issues.
- Asset backed investment. Normal Invoice discounting (with modern variations), and factoring continues to grow and in spite of the reservations of ‘traditional accountants’ can be extremely valuable in funding working capital growth. Fixed asset leasing schemes are endemic and supplied by most lenders. There are also some schemes for government support run through the banks with support for asset investment to the extent of 10/20%, and it goes well alongside normal asset based lending.
- Exporting. Support for this is a national and company concern. Positively, there is now interest by government in helping exports, including SMEs, with a new EFG scheme, though the 60% guarantee is not widely exploited. For further information refer to the Government UK Export Finance pages.
2. Non Bank Loans:
- New entrants. National emphasis is continuing to encouraging new entrants of all kinds into the market. The new referral legislation, as above, could be a very significant move in this respect as they will now have new guided access to existing banks’ customers.
- CDFIs (Community Development Finance Institutions) These institutions with some public support are crucial to dealing with market failures below around £150k. They lend after a bank decline as an additional source of finance. BCRS business loans, based in the Black Country , extended into Staffordshire and Shropshire over the last few years, lending up to £150k. It now lends across the West Midlands including specific targeted local funds, such as Worcestershire with a new Business Loans fund up to £50k from September 2016. ART Business Loans originally active in the Birmingham area has also extended to the wider region in the last three years on loans up to £150k. CWRT Business Loans in Cov/Warwick CDFI is active and lending up to £75k and Impetus Business Loans in Pershore also lends throughout the West Midlands but mostly in Worcestershire and the Marches. There is strong concern about government negative attitude to agreed and contracted recycling which is currently denuding the CDFIs of expected cash.
- Other public funding. Finance Birmingham are still lending in the £100k to £1m space now expanded to the whole Greater Birmingham LEP area, including Solihull. A government Start-Up Loan Programme also targets businesses up to two years old with soft loans of up to £25K delivered by local and national partners.
- Internet Based/peer to peer activity. General sites identified, include Zopa, Funding Circle, Lending Works, Ratesetter, Assetz, and Funding Knight, all with their merits. The major local player is Business Loan Network’s Thincats, whose lending is now above £200m and continuing to develop with larger loans up to £500k. The whole market is growing fast and there are many different models for reducing risk including credit reference, security, and sometimes like Thincats, knowledgeable assessment and combinations of all these. Rates are high (above 10%?) and mostly security is required but they lend when banks will not or are not trusted. There is some concern that new regulations might constrain, and most established lenders have applied for FCA approvals. Financial intermediaries are now starting to understand them and specialise in recommendations. The market activity is an exciting development, and is often now close to traditional lending with less inherent costs. However it is generally still expensive and security based for clients. Peer to peer for equity including crowd funding is not so established and there are more doubts about its viability.
- Supply chain funding. Advanced Manufacturing Supply Chain Initiative (AMSCI) was mainly from West Midlands LEPs run nationally by Birmingham City Council/Finance Birmingham. It originated locally to help the automotive supply chain serve growing automotive development and tooling but has expanded to a national scheme. Broadly it supplies grants/ loans of minimum £200k for the local scheme (total available was £25m), or £2m for the national scheme (total available £100m). For more information talk to Finance Birmingham.
3. Specific Regional Venture capital (VC) and support
Lack of VC is very rapidly becoming a priority throughout the region as the former-Regional Development Agency established funds, from single pot and also European Regional Development funding is starting to run down (see reference). The region has also not been too successful in accessing regional growth funds for this gap. In detail, remaining sources are:
- Midven is continuing to run many early stage companies but is virtually out of new money.
- Mercia Fund Management, run out of Henley in Arden, has recently had very significant changes in its operation, to make it arguably the most significant national fund for high tech spin-outs nationwide after Imperial Innovations in London. Most of the money can be used anywhere but it has expressed a policy of concentrating on the Midlands and North of the UK, with Universities a focus. Currently/ recently Mercia (i) continues to run its original evergreen fund for spinouts supported continually by ERDF investments although money is short until realisations; (ii) floated on Aim in December 2104 with the support of well known investors including Neil Woodford formerly of Invesco and has since acquired Enterprise Venture group which operated mainly in the North; (iii) raises Enterprise Investment Schemes (EIS) and Seed EIS of over £1m per year, using the latest government tax benefits to support early stage businesses carrying on the practice of the last 4 years; (iv) has Funds under management of £228m and direct investment capability of around £50m available for start ups, follow on and other investments; (v) broadly provides a ladder of investment from start up to maturity with experienced staff to help identify, control and develop technological opportunities.
- Advantage Early Growth Fund received more ERDF to match with angels at point of investment and is still investing but at very low level.
- Finance Birmingham has a comprehensive set of funds available to Greater Birmingham LEP area but also sometimes to the rest of the West Midlands and others. These include: High tech /early stage companies, £50k up to £500k; Creative £50k to £500k; Equity £250k to£1m; Loan £100k to £1m; Mezzanine to £2m.
- National funds. There are many national and other commercial venture capital providers in the region, some part of British Business Bank (BBB), but generally are interested in investments larger than £1m.
4. Angel/ Start up activity
- Tax relief for private individuals, investing by Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) are very generous with over £1.5B raised nationwide in the last year at a cost to the exchequer of over £500m in lost tax. Mercia has funds, as above and there are others operating on a smaller scale. Minerva with HQ at Warwick Science Park, but presence throughout the region and beyond, is the major independent regional Angel network with 22 investments in the last 3 years. However a recent report (reference below) has calculated that SMEs in the West Midlands use less than a third of EIS UK average per SME. The RFF was very keen that focused encouragement of angels should be part of the Fund of Funds (now Midlands Engine Investment Fund – see below) development as there are issues with network costs but it was not accepted. Thus further initiatives are still required – potentially each LEP could develop its own Business Angel networks either independent, linked to larger players in funds, or to others using the Business Services community.
- Science Parks. Many of the science parks have incubation centres, both actual and virtual, which can provide signposting to finance people and services to help, often with the support of public funds and are considered amongst the best in the country. These include the Innovation Birmingham Campus at Birmingham Science Park Aston, the University of Birmingham’s Bizz Inn, Warwick Science Park, Keele University Science and Innovation Park, Malvern Hills Science Park; Coventry University Technology Park and Wolverhampton Science Park, and new ones are emerging. They normally specialise in particular technologies.
- Support through Local Enterprise Partnerships (LEPs) and Growth Hubs. There were formerly ERDF funded activities in virtually every LEP area in support of start-ups. In the new programme it is not so clear as but the local Growth Hubs are the best place to start to identify LEP-level programmes of support.
- Proof of concept. There were formerly funds in various geographies – they still exist in Worcestershire and Coventry and Warwickshire, and could be replicated elsewhere.
5. Fund of Funds/Midlands Engine Investment Fund( MEIF)
The Regional Finance Forum identified the need for a ‘fund of funds’ mechanism using recycled AWM and ERDF funds, and European Investment Bank borrowings, when AWM closed, and has been researching and developing the idea with all the 6 West Midlands LEPs and national government departments since 2012. It is a game changer in the amount of funds available and is to be delivered by the British Business Bank (BBB) in cooperation with all the local LEPS. The MEIF/ Fund of Funds will have the following characteristics, as announced by the BBB on 17/20 October 2016.
- Approximately £250m has been allocated from ERDF, EIB, BBB, and RDA legacy funds over approx 5 years, across the whole Midlands i.e. including East and some South East Midlands with the Midlands Engine Investment Fund (MEIF) label.
- The funds are in the procurement stage in late October 2016 with the objective of being available in the market from February /March 2017.
- Four lots are being procured (see BBB web site) (i) Equity: initial allocation of c £80m; 20% below £250k. (ii) Debt: initial allocation of c £120; 25% below £200k; 70% below £500k. (iii) Small business loans of c £30m; 25% below £50k; 70% below £75k. (iv) Proof of concept/ early stage funds; initial allocation of c £20m; 50% below 250k.
6. Further reading
- A full independent review, driven by RFF, of West Midland’s access to finance, by Regeneris under the supervision of European Investment Bank (EIB), for consideration by EIB and DCLG in potential use of EU funds 2010-2020 is a fact based background reference for this paper – this is very enlightening.
- The Business Finance Guide is a new helpful national publication on sourcing finance and other support that has just been issued, written by the ICAEW.