Finance for business: why banks must rethink their approach to revolving finance

Denise Friend, founder and head of corporate advisory at Friend Partnership, is calling on British banks to change their approach to revolving finance for high growth and entrepreneurial businesses.

Give high growth businesses access to affordable bank finance and you’ll unlock growth in the UK. Business owners can plan into the medium and long-term and undertake the investment activities that will ultimately benefit UK plc.

This is surely hard to argue against, yet time and again we hear from our entrepreneurial business clients that they cannot access the bank finance they need.

In fact, obtaining the right form of finance to enable their business to thrive and grow is probably the most difficult issue that business owners have to tackle.

Raising finance

Raising finance is easy if the asset that you need to finance has wheels, with multiple places offering vehicle finance that is generally available at reasonable cost, and repayable over a sensible period of time that matches its expected economic life.

Likewise, if you are selling finished goods to businesses, you can obtain invoice finance for which the security is your debtor book. The amount that you can borrow is expandable depending on the size of your sales ledger. I have known many such businesses which have had dramatic growth and even cash in the bank, whilst being able to negotiate credit terms from suppliers.

But these forms of finance are generally unavailable to the high added-value businesses that our economy needs to encourage, such as those that have demonstrated sustainable growth and profitability, but that do not have the type of asset security that finds favour with the banks.

I don’t believe that the banks’ thinking on how to best support those businesses have moved forward for many years and, for me, this is the biggest single challenge for SMEs.

Revolving finance

Large business has access to many kinds of revolving finance be it from a bank or by the issue of bonds. The business only repays interest for the term of the loan and often that interest is rolled up. They may have to pay a greater interest rate to obtain this finance but the ability to grow their business without the drain of repaying debt means money can be put to better use and earn a greater return for the business.

These businesses need to keep within their banking covenants which, if you have a growing, profitable and well-managed business is generally easy to do, and of course there needs to be tight financial control. But, if you fit these parameters at the start of a lend, then the bank is more than happy not to be repaid. Indeed for businesses with profit over £5 million per annum, the banks are happy to advance revolving facilities or a loan with what is known as a’ bullet repayment’, meaning repayment is made at the end of the loan in 3 or 5 years’ time and is often ‘revolved’; the last thing a bank wants is its money back if it can lend to a good customer.

The challenge for SMEs

That all works nicely if you make a profit of £5 million. But what about the vast majority of high growth, privately owned businesses that make somewhat less than £5 million profits per annum?

The parameters that work for businesses making £5m profit can easily work for a smaller entity. Indeed, a company with profits of say £500k may be able to demonstrate that a revolving loan of £2.5m would work for them and enable them to grow more rapidly.

But this is where the banks are blinkered.

I cannot think of any mainstream bank which would advance a smaller business a revolving loan, no matter how compelling their story. These businesses have to seek alternatives that are far costlier, or they are pushed into the arms of private equity which inevitably means two agendas and an unwelcome short-termist approach.

There has been much in the media about how the banks treated businesses after the credit crunch.

What is spoken about much less is that the banks wrote off vast amounts of debt where they had lent to large businesses for over-priced acquisitions of either trading businesses or properties. Not for large businesses were there the personal guarantees that the banks demand from smaller businesses. I understand that the largest loan write-off at one bank was £2.5bn against just one company. So, it seems to me that SMEs paid the price for the banks thinking that their money was safer with a large company.

Many owners of growing businesses spend huge amounts of time raising finance and then having to do it all over again when they can demonstrate the further growth that the banks did not believe at the time of the first loan.

We need a grown-up debate about this. It is simply not enough to set the bar high and tell people to come back when they have achieved £5m profit. By then they will have gone to alternative and more expensive funders when they did not need to.

Time to change

Surely as a country our best interests are served by banks funding the wealth creating sector in structures that accord with what is best for them? I am not talking about start- ups which are clearly inherently risky. I am focussing on businesses that the banks will lend to but in a form and over a period that is not in their best interests, just the best interests of the bank.

We have had various forms of government funding over the years. I don’t think it should be needed, but a small guarantee premium (and I mean small, say 0.5% or so) that would enable a company to access a revolving facility would be welcomed by business as a small price to pay to reduce the number of funding rounds and enable them to focus on what is really important.

The banks should not be at risk if that was in place.

I lay down a challenge to the banks – to do what is best for the wealth creators of the country, or tell me why they can’t. I am open to debate.

Denise Friend is the founder and head of corporate finance advisory at Friend Partnership Limited, and works predominantly with business owners, owner managed business and entrepreneurs.

Since Friend Partnership Limited was established as a corporate finance boutique in 1983, it has grown into a well-respected Chartered Accountancy practice offering a full range of business advisory, accountancy and taxation advice and support services. It works principally with privately owned businesses operating nationally and internationally in a variety of sectors including manufacturing, technology, renewable energy, distribution, retail and construction, and range from entrepreneurial start-ups to well-established businesses. For more information:  www.friendpartnership.com