How to stop the ‘Muppet Show’

There are two types of businesses that are likely to seek funding. There are those financing for growth; there are also businesses looking for funding simply to maintain stability and survive. These groups are referred to as Gazelles and Muppets respectively in research undertaken by Sussex University a few years ago.

The Muppets are likely to have negligible effect on economic growth on a macro level. The Gazelles have more of an effect. It has been argued elsewhere that a fear of external funding on the part of SMEs who know they need to grow is stifling the UK economy.

But, is a lack of funding threatening economic recovery and limiting long-term competitiveness, or is it that reluctance to borrow in the face of uncertainty that is holding back growth? Or, are SMEs simply unaware of their options?

According to the cross-party think tank Demos, in Q1 of 2017 there was an increase in the number of applications for loans and overdrafts from SMEs but the volume of applications was down on the same period a year earlier. Around eight of ten applications were approved.

This was backed up by the Bank of England whose statistics show that lending to business continued to grow in early 2017 but at a more subdued rate than last year.

So, slower growth in business lending to SMEs would seem to indicate that most smaller companies in the UK are risk averse.

Bank of England data suggests that cashflow is good, not surprisingly then, net lending to SMEs has been steadily falling, according to the Demos report. This is perhaps because many SMEs are not looking to banks for their finance needs in the first place.

According to Demos, most SMEs can get the finance they need from banks. However, traditional lending might not be suitable for their requirements. In many cases equity finance or another source of funding might actually be more suitable.

There seems to be a clear demarcation between those businesses seeking to simply exist and remain static and those that are actively seeking to grow – the Muppets and the Gazelles. It is latter group of businesses that funders should be concentrating on, regardless of size. Success and reduced risk is all about the potential for those businesses to grow.

It is therefore necessary to create a funding environment that can support innovation and start-ups. It is argued that Government policy should be diverted away from supporting the SME sector to concentrate on those businesses with ambition to innovate and grow rather than those seeking ongoing stability. Previous grant schemes such as Growth Accelerator have been aimed at exactly this market sector. At the end of the day stability without growth cannot aid economic recovery.

Although Demos argues that we need to develop a more advanced equity culture in the UK the banks still have a responsibility to support the market for bank lending. Demos reckons that they should be charged with using their unrivalled distribution networks and innovate to find ways of distributing alternative finance.

Demos makes several other recommendations:

  • Develop a genuine pre-capital market equity investment house. Returning to a model of the Industrial and Commercial Finance Corporation, the precursor to 3i, could strongly benefit the UK economy.
  • Develop a reliable SME registry to improve data on the sector which would be created and run by either the Bank of England or the Office of National Statistics. It could be built on a model already in use in Canada.
  • Create SME impact assessments using the World Bank’s impact assessment framework specifically on SME funding as a blueprint.
  • Focus on increasing the growth potential of our SMEs rather than simply increasing the number of SMEs we have. The emphasis should be on encouraging growth potential so that businesses are more able to survive and more likely to do so in a way that makes a positive contribution to the economy and society. It would involve thinking through not just how to direct more help to the existing stock of businesses in the form of mentoring, education and so on, but also how to build relevant literacy in the generations of future business founders and owners.
  • Establish a ‘business academy’ network able to support businesses as they develop.
  • Create a central database of lender information to allow banks and new entrants to make more informed lending decisions.
  • Address the lack of an equity culture in the UK.

There are plenty of equity funding options available for growing businesses to tap into. Equity finance can come from a number of sources, including family and friends, business angels, venture capitalists, special equity funds and flotation.

However, only around two per cent of companies succeed in finding equity investment. To succeed, you must have an exciting proposition with good growth prospects and a strong management team and a well-planned business plan. Investors are generally looking for something beyond the concept stage.

The management team should be able to demonstrate sector experience and have a track record of running a successful business.

In many cases the total funds required will be raised from a several sources, perhaps angel funding combined with capital or debt from specialist venture funds and even mixed with bank lending under an Enterprise Funding Guarantee (EFG).

For more information on equity funding options please call Pegasus Funding Resources on 0203 327 0567 or email info@pegasusfunding.co.uk.

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