A Guide to SME finance – Pulling the right strings

The SME financing space is now in full-blooded recovery following the recession: but with more options than ever before how can you ensure you pick the right route?

Delving into the world of external finance can be a complex and challenging venture, especially if you’re a small company. As recession hit banks cut back lending to SMEs, seen as a risky investment, small businesses were forced to find other means of financing their growth or even survival.

Now with the economy in recovery, it would be safe to assume that SME finance is getting easier. However, with a confusing number of finance options coming to market and SMEs still reluctant to borrow money through fears of not being able to afford the repayments, the finance market isn’t getting any simpler.

Traditionally if a small business or organisation was looking to secure a loan, the first port of call would be your bank due to their previously dominant position in the market. When the recession hit a decade ago money quickly dried up in the banks, meaning that this once reliable lender started to cut its ties with the SME community.

Having to go it alone and become more self-sufficient in finding ways to fund their business the SME’s view on lending quickly changed. With banks and institutional lessors creating the ‘piling it high and selling it cheap’ approach in an attempt to bring in the numbers, an opening for the secondary finance marketplace was created.

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Small to medium businesses now make up 99% of British firms and with eight out ten not keen to borrow money, they need to become more attune to the fact that external funding is an important part of businesses expansion and growth.

In fact the future looks rosier, with 60% of loan applications from small business being approved this year compared to only 45% last year and 25% of lending to small to medium businesses coming from alternative lending providers.

The question of whether to choose the traditional option of the bank or go down the secondary market looms. Alternative lending providers aim to understand the business inside out, whether their investment is going to make them money or save them money and if they have a genuine business plan or are looking to grow the business through innovation.

Other options, such as peer to peer lending, where high net worth individuals or businesses have the cash flexibility to take a calculated risk in another business, as well as Go Compare-style aggregating sites coming to market can make the landscape and choices for SMEs ever more confusing.

There are five things small businesses can do to overcome this confusion.

1.Be clear about the commercial and financial objectives behind your borrowing: It’s vital to ensure that you have created a clear business case with detailed reasons for why you want or need to borrow money as any provider worth their salt will want to scrutinise this.

2.Consider breaking up your borrowing requirements: Look into different types of borrowing for different requirements and the option to segment where your funds come from. For example a short term loan may serve to solve cash flow issues but peer to peer lending may be the way to fund a new innovation.

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3.Find a specialist: In your hunt for finance it may well be prudent to seek out a provider or lender that has an intrinsic knowledge of your market. They will better understand why you need finance, what impact it will make on the business and what their return could be. Generic lenders may overlook the detail in the deal and not play ball.

4.Find a provider who isn’t going to make life easy for you: You should be prepared to challenge the potential lender on price and equally be prepared for them to challenge you about your business case. This is a good sign as it indicates a serious lender who wants to do proper commercial due diligence rather than simple yes/no negotiations.

5.Invest in personnel internally: Does your business have the skills to properly understand the market? If not it may be worth investing in the knowledge which allows you to know where’s the best place to go and what options are available to you. Either that, or find a broker that can work with you to gain that knowledge.

Further reading: Being aware of your SME funding options

Praseeda Nair

Praseeda Nair

Praseeda was Editor for GrowthBusiness.co.uk from 2016 to 2018.

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