Crisis of SME Lending and how to circumvent it

Many small businesses are struggling to raise much-needed funds to expand. This is nothing new. Since credit tightening at the onset of the recession businesses of all sizes have struggled to raise debt to varying degrees. However in a period of low interest rates and a growing economy, why is this still the case?

On Thursday, the Bank of England released their Funding for Lending figures, which were down more than £128 million on the previous quarter, however there is hope. According to the National Association of Commercial Finance Brokers, a record number of new lenders have joined the market to push an uptick in SME lending.

Whilst the vast majority of lending comes from traditional sources such as high street banks who have traditionally required assets as security (something most small businesses simply don’t have) or otherwise require substantial turnovers for cash flow lending, new lenders do offer some considerable hope to small businesses. In short, they can be separated out as follows:

The crowd                                                

Crowd funding initially revolved around equity investment and, in the case of Kickstarter (among others), early access to products or limited supply items from the company that was being funded. More recently, with the introduction of businesses like Funding Circle, this has extended to debt.

Assuming you fit within their parameters, crowdfunding sites can be a great way to raise debt. They are often flexible, and represent an open market approach through which you can submit the terms you are willing to accept. Potential lenders can then pledge any amount of cash towards your target amount. The sites themselves will usually take a small cut of the debt raised (and, in some cases, a fee) but nothing that will break the bank.

The Venture Lender

If you are in the market for rapid expansion, acquisitions or other high growth strategies that are likely to result in an ultimate exit, venture debt may be for you. These guys specialise in funding high growth, often pre-revenue businesses with debt. Beware, however, many come with high interest rates (to reflect the risk profile of the business) and warrants, which entitle the lender to a portion of equity on a successful exit. If it is a successful exit however, and the debt enabled your business to break a plateau to get there, those warrants may look like a risk worth taking.

The Gordon Gekko Solution

Mezzanine finance was traditionally used to fill a funding gap in the capital structures of big-ticket leveraged buyouts, however it now shows great promise in the SME space. Like venture debt, it usually takes the form of subordinated debt with a fairly high interest rate. Warrants are often requested. Interestingly, there is some preliminary evidence to suggest that high street banks will view mezzanine as a form of hybrid equity, often making subsequent senior debt lending more likely as a result. Mezzanine therefore may represent a first step in a two part debt raising journey that may solve your needs. And you get to feel like Gordon Gekko in the process.

The Establishment Lender

Despite a recent reduction in lending through government schemes, they still represent a useful opportunity to small businesses. Usually issued through high street banks or invoice factoring businesses, schemes like the Enterprise Finance Guarantee may be the golden ticket you are after. With a loan default underwritten by the government, small businesses otherwise unable to access debt represent a much more secure prospect to banks if applying through this scheme. The government will take an additional 2 per cent per annum interest on top of the standard interest rate and beware, it is likely that the directors of the business will need to give a personal guarantee. The good news is that any primary residence will not be included under that guarantee.

Giving up a Slice of the Pie

An option that many refuse to entertain is equity investment. Whilst, understandably, one should be careful with their equity, there are times when giving a little up can result in a clear net benefit to a business. With SEIS and EIS schemes available, equity investment can be raised very cheaply and investors can be ‘encouraged’ to be passive, either through a well-drafted shareholder agreement or simply through picking the right people. Perhaps the biggest potential benefit however is choosing an investor who has the knowledge or network to take you to the next level. Does equity look that expensive when you get the money and the expertise thrown in?

Practicing what you preach

Here at MessageBase (, a telephone answering business for SMEs and enterprise, we are always in the process of engaging with most types of lender detailed above. As one of our wise counsel once told us: ‘money is cheap, what you’re offering isn’t. Don’t be quick to give your business away whatever the cost.’ They are wise words. Many business owners would do well to remember that, despite their financial situation, the world is awash with money. It takes a little perseverance and a little time, but the cash is there at a reasonable rate for your business if you want it enough.

Freddie Bellhouse, Director, MessageBase

Image: Funding via Shutterstock