Finance for Small Firms
A Fourth Report
This report
The Bank’s fourth report on finance for small firms follows a broadly similar format to its predecessors. Much of its content relates to a detailed examination of sources of finance, including debt, equity and asset-based finance. A whole range of measures and initiatives to improve the effectiveness of the small business sector in the UK economy are also discussed. Separate sections look at specific issues, including advice and assistance for exporters, technology-based firms and ethnic minority businesses.
The Bank of England’s Initiative on Finance for Small Firms
A great deal has happened since the Governor commenced his initiative on the financing of small firms in the summer of 1993. At that time, memories of the recession and the effect that it had had on the small firms sector were still sharp and, in some cases, bitter. Convinced of the vital contribution that small firms make to the economy as a whole (not least in terms of employment creation), and concerned at the breakdown in relationships between the clearing banks and their small business customers, the Bank became closely involved in discussions and initiatives aimed at improving the financing of the small business sector.
Improvements have been steady rather than dramatic, and have reflected the constructive and committed approach of both the users and the suppliers of finance. Macroeconomic stability has played a vital role in helping businesses and banks to plan for the future. The banks have worked hard to improve the service provided to their small business customers. Many of the developments that took place during 1996 were simply the further progression of trends that have been in place for some years: for example, increased use of term loans and the growing importance of asset-based finance. It is as yet too early to confirm that the improvements noted over the last three years are a result of a structural change in the approach to financing small firms, rather than simply a reflection of the economic cycle.
The organisations that represent small businesses have worked hard to convince their members of the importance of improving financial and other management skills. There have been some encouraging developments in this area, but commitment to improvement has to be seen increasingly as an investment for the longer term.
As the Bank has said in previous reports, there is no room for complacency. The objective of all concerned must continue to be a well-trained and appropriately-financed small business sector, which will be well-placed to reap the benefits of its flexibility and its capacity for innovation.
Copies of the Bank’s report are available from Public Enquiries Group, Bank of England, London, EC2R 8AH (Tel No:+44 (0)207 601 4878; Fax No:+44 (0)207 601 5460).
Summary
Economic background
- DTI estimates suggest that firms with less than 100 employees accounted for 99.6% of the UK business population in 1994.
- Small firm closures have outnumbered start-ups during 1996, according to estimates produced by Barclays Bank.
- The extent to which small firms have benefited from the recovery varies by size, sector and geographical area. Many of the smallest firms have experienced a fall in sales during 1996
Bank finance
- The clearing banks remain the largest external finance source for small firms.
- The banks are relying increasingly on business intentions and cashflow forecasts in their lending decisions.
- Many businesses, particularly the smallest ones, remain wary of increasing their borrowing levels.
- Term loans now account for nearly two thirds of bank borrowing by the small business sector, although the proportion of borrowing accounted for by overdrafts is unlikely to fall further.
- The range of margins paid on small business borrowing changed little in 1996. It extends from approximately 2% to between 5% and 7% over base rate, with average margins between 3% and 4%.
- The past year has seen an increase in the availability of telephone banking for small businesses.
- The banks continue to invest heavily in the training of business account managers and staff.
Other sources of finance
- Asset-based finance accounts for an increasing proportion of external finance to small firms.
- The growth of the factoring and invoice discounting industry continues, with the number of firms utilising these services increasing by more than 19%.
- Many firms continue to devote insufficient resources to credit management, despite its potential to reduce payment delays.
- Observed business angel investment rose by 38% during 1995/6, although most activity in this market remains invisible.
- EASDAQ, a pan-European capital market for growing businesses, was launched in September 1996.
Small businesses
- Late payment of trade debt still remains a concern for small firms. A British Standard on Payment Performance has been launched.
- More small firms need to recognise the importance of training to meet their specific needs.
- There is increasing business incubator activity in the UK, but lack of finance could be a barrier to the development of more incubators.
The financing of technology-based small firms
- Technology-based firms have a vital role to play in the UK economy.
- Appropriate finance is a major requirement, but improving the management, marketing and financial skills of entrepreneurs is important too.
- There is some evidence of a weakness or inefficiency in the market for the financing of these firms. However, the nature of the problem is complex and this suggests that there is no single, simple solution.
Issues facing exporters
- Availability of focused information and advice remains the most important issue for exporters.
- Business Links and Export Development Counsellors (EDCs), in particular, appear to be the most appropriate channel for delivering consistent advice.
- There has been some improvement in the availability of finance for exporters. A possible gap might be access to pre-shipment finance.
- Information Technology is increasingly important - for example, as a means of identifying potential buyers.
Ethnic minority businesses
- Ethnic minority businesses represent a significant component of the UK small firms sector. However, there are substantial variations among ethnic minority groups.
- The availability of bank finance has been identified as a limiting factor in business development by ethnic minority entrepreneurs.
- Problems faced by ethnic minority businesses are similar to those encountered by small businesses generally, but they encounter them in a more acute form.
Public policy
- The completed network of Business Links consists of 89 partnerships and approximately 270 outlets throughout England.
- Business support services are to be streamlined with the intention of reducing bureaucracy and duplication. Funding will be channelled through a £200 million Local Competitiveness Budget, with an additional £40 million Sector Challenge Fund.
- The number and value of loans guaranteed under the Small Firms Loan Guarantee Scheme have continued to increase sharply. The latest Government review of the Scheme in March resulted in a number of changes.
- Government grants (such as SMART and SPUR) are seen by some businesses as too bureaucratic and time consuming to access.
- Surveys suggest that the burden of domestic and European regulation has increased on small and medium sized firms, despite attempts to reduce the impact of regulation.
The way forward
- The Bank has highlighted the following topics for particular attention next year: following up the recommendations of the report on the financing of technology-based small firms; carrying out work on international comparisons of the financing of small firms; examining how the clearing banks settle disputes with small business customers; working with others to improve data on the financing of small firms; considering barriers that might make it difficult for small firms to change banks; and assessing the particular financing needs of ethnic minority businesses.
