Lending a hand: How can banks and SMEs align their interests to mutual benefit?

When you hear the phrase SMEs, it’s hard not to think about numbers. 99.9 – the percentage of private sector businesses in the UK that are classified as an SME, 15.2 million – the number of people SMEs employ in the private sector, 47 – the percentage of turnover that SMEs account for in the UK, and £7.9 billion – the fall in lending to SMEs over the last year, despite improving confidence and appetite for borrowing.

So why is it that SMEs are still struggling to find the funding they need?

Several reasons can be attributed to this; the tight political pressures that we’ve seen over the last five or six years on large banks to lend to SMEs have loosened significantly in recent months, and with the Funding for Lending Scheme due to end on 1st January 2016, banks are starting to wean themselves off it.

Small loans lack incentive

Additionally, as lending smaller sums of money requires the same amount of work as lending larger sums, but for less return, there’s a lack of incentive for larger lenders to do this. In fact, small business lending fell by nearly £5.5 billion in June – its biggest drop since records began four years ago.

One of the primary issues which remains is that lending to SMEs is dominated by property-backed loans which is punitive for the hundreds of thousands of companies that aren’t property-rich and for those who quite simply aren’t looking for another mortgage.

This point is particularly significant because one of the major changes to the SME landscape in recent years has been the decreasing need for commercial property. This has largely been fuelled by the increased accessibility and mass adoption of new technology; technology has lowered the barriers to entry for people from all backgrounds and ages to make a business idea happen, and to use mobile and digital devices to find customers, make sales and fund new ventures.

The UK and Ireland is now the fastest-growing region for Fintech investment and deal volumes here have been growing at 74% a year since 2008, compared with 27% globally and 13% in Silicon Valley. What this means is that we’re seeing an increasing number of software developers, IT consultants, designers, independent contractors and other businesses entering the market with little or no requirement for a physical office. In fact, more than 60% of people who started a business in 2014, did so from home.

What’s more is that when you take in to account that the Government has 80 sites across the UK that are available for start-ups and charities to use flexibly, the need to purchase property or take on long-term rents, is reduced further.

And the reality is that for the two thirds (65%) of small businesses that aspire to grow this year, they may not be in a position where they want to put money in real estate even if they can afford it. They want to use their cash flow and earnings to reinvest in the business: training and recruiting staff, expanding their services, improving their customer journey, etc. So what other options are there for these asset-poor businesses?

Solace in the crowd

Some have turned to the alternative finance market, using crowdfunding or peer-to-peer (P2P) lending platforms to secure the capital they need. This market was worth £1.74 billion by the end of 2014 – a 161% increase on the 2013 figure (£666 million) – with crowdfunding making up £84 million of this and growing by an average of 410% annually. SMEs who have been shunned by traditional banks, angel investors and venture capitalists, have found solace in the crowd and these platforms will play an interesting role in SME lending in the future.

However, they may not be right for all SMEs; while this model has proven beneficial to some start-ups who don’t have long track records, it is often less helpful to growth businesses that are already generating revenue and are looking for additional capital to grow their business. These companies may not feel as comfortable making information about their company available to the public and may not be able to secure a good deal on these platforms.

Ultimately, the key for both new and old lenders is to ensure they are properly catering to a specific need among small businesses. The best outcomes aren’t achieved by simply trying to create a successful bank, direct lender or crowdfunding platform – thinking of the market in silos rarely has the required focus on the problems faced by the customer.

The best solution may in fact be to take the best elements from banks, direct lenders and crowdfunding platforms and blend them together to deliver a service that genuinely meets the needs of small business owners.

Further reading: Five ways you may be limiting your own growth