but how well are the needs of the SME being served?
In this viewpoint on financing the smaller business, we look at the environment in which the SME has operated over the past 70 years and meet BCRS Business Loans, an organisation which maintained its focus on the sector since the end of the Dot Com era.
There’s never been a golden age for financing smaller companies. The smaller the business, the more difficult it has been for entrepreneurs to source the funds or specialist advice they require. It was not until the early ‘70s, for example, that the UK Government formally identified SMEs as having special needs, and established a Small Business Bureau. Up to that point, they were seen simply as businesses that had not grown.
There were attempts to help UK businesses overcome a perceived funding gap in post-war Britain, with the establishment of the Industrial and Commercial Finance Corporation (ICFC) in 1945 to provide loans from £5,000 to £200,000 from a consortium of banks. The ICFC was targeted at businesses with a funding requirement that was too small to be met cost-effectively through a public offering, while too risky and too costly to be funded directly by the banks. There are few examples of the organisation proving to be a game-changer. It has been absorbed into the FTSE 100 group, 3i plc.
On the one occasion when money was showered on small companies, investors and institutions alike were left with an unpleasant taste. The Dot Com boom from 1998 to the end of 2000 saw an in-rush of funds fuelling highly speculative valuations of companies which could never be substantiated. Many were SMEs which had minimal trading history yet had assumed multi-million pound capitalisations on the junior stock markets. The bubble burst and left investors vowing never to go back into the SME sector.
Good business opportunities were in danger of being lost unless there were a change in strategy for funding the SME community. A different approach was required which did not depend on fashions in funding but was linked to the economic impact of those businesses within the UK’s regional economies. As smaller businesses, they tend to operate in a single area, where they interface with the local economy through the payment of wages and the purchase of goods and services. There is a classic multiplier effect between the funds made available and their impact locally.
BCRS Business Loans – responding to a requirement
BCRS Business Loans is a lender which has been active in the West Midlands, since its foundation in 2001 as the Black Country Reinvestment Society. As it name at the time might suggest, it was set up to provide term loans to smaller businesses in the UK’s Black Country. Subsequent expansion of its footprint across the West Midlands region saw the name evolving to its present BCRS Business Loans, with a remit for term loans from £10,000 to £150,000.
BCRS owes its existence to a UK Government initiative in 2001 to stimulate lending to the smaller business sector. Experience with organisations like the ICFC had demonstrated that quasi-state institutions were not the way to go about this. Whitehall opted for seeding the project with funds managed and delivered by organisations which had a closer understanding of the businesses in their area.
Effective delivery depends on ensuring that community-based organisations which were in regular contact with SMEs could help channel applications to the fund-holders.
Co-founder Paul Kalinauckas is Chief Executive of the organisation today and is well placed to chart the growth in non-bank lending from the start of the last decade.
He noted that, in the case of BCRS, the resource was promoted at first within the Black Country by the local Co-operative Development Agency. “Having access to the funds was one matter; having a channel which identified likely candidates another. But the question remained whether we could put something in place that the Barclays and RBS operations of this world could not achieve.”
Classic private-public sector collaboration
As Paul went on to explain, there were a number of important differences between the two business models. “Ours is a private-public sector collaboration, with public funds seeking to achieve objectives set by government but implemented through a more responsive private sector. On the day we started, we had a blank sheet of paper and needed to establish how we could get the greatest possible leverage from the funds at our disposal.”
One important factor is that BCRS Business Loans is a not-for-profit enterprise, so that the team has never had to focus on maximising returns for commercial investors as would a bank or private equity house.
The business grew at a modest rate until the start of the financial crisis at the end of 2008. There was a burgeoning demand for its services when bank lending dried up: “When the cuts came, our business experienced a J-curve growth. We went from half a million pounds a year to £2 million, then £3 million and on to the £6 million a year that we are now handling.”
Were SMEs able to secure funding from the commercial banking sector themselves, they would be paying typically 19% a year. This compares with around 12% on similar sized loans from BCRS, making the ‘alternative’ route a more cost-effective option. It would be reasonable to assume, therefore, that every West Midlands business would be beating a path to the BCRS headquarters in Wolverhampton for the 7% differential in the interest rates. The criterion for the involvement of BCRS, however, is they must have been rejected by a conventional lender.
Understanding customers’ requirements
Partly because BCRS is a small business – it has only seventeen staff in total – it has established a close rapport with the businesses which are seeking funds. The team does not look surprised, for example, when a company admits to not having a marketing director – something that would count as a negative point when viewed by a classic banking institution. The quality of the individuals involved is more important to its decision-making.
BCRS Business Loans is distinctly entrepreneurial in its approach; a factor which has no doubt contributed to its success. It has recruited bankers as its development specialists over the years; many were frustrated by the tiers of decision-making involved in that sector. Local business managers in the banks know that even though a deal may have stacked up, they cannot proceed because the systems or policy would not permit it.
According to the Chief Executive, BCRS Business Loans is not regarded as a competitor by the banks. “Because we are able to meet the needs of businesses turned down by them, we have excellent relationships with the high street managers. They see BCRS as complementing the service they provide to customers, and we often meet clients on their premises. It can help local managers score more highly on customer satisfaction surveys, which benefits them.”
Ensuring a steady supply of loan funds
BCRS is not involved in equity investment, so the funds it has on loan to clients will be repaid, with interest providing a revenue stream. But with new loans running currently at £6 million a year and having a total of £22 million out with clients, BCRS has to be able to tap regularly into additional sources of funds.
Without any capital of its own at risk, where does BCRS Business Loans obtain the money that it lends? As a not-for-profit company, it does not have conventional shareholders pumping in new equity as required.
There is a certain paradox in that the organisation sources funds largely from high street banks, taking the entrepreneurial risk that the banks are not able or willing to accommodate. BCRS’ exposure is reduced as it can partially insure loans through the Enterprise Guarantee Scheme in the UK and, more recently, the European Investment Bank (EIB) Small Firms Guarantee Scheme.
Had Paul and his colleagues considered raising money through peer-to-peer lending platforms, where there is a further sharing of risk? It was a route that is not on the agenda. “It would deviate too far from the successful business model that we have pursued. The platform operators’ primary responsibility is to their lenders rather than the borrowers so the assessment of risk is likely to be different. We are fortunate in being able to fund our operations adequately from the commercial banks, and like-minded organisations who share our commitment to developing businesses in our region with no ulterior motive.
“In order to have the resources to meet the growing demand, we can source funds through collaborative ventures such as the Staffordshire County Fund where we invited the County Council to match our £500,000 funding to create a vehicle for supporting businesses in the County. Despite all local authorities being hard pressed for cash, it was clear to the Council that loans made would have a disproportionately greater impact on their area.”
Because BCRS draws its funding from private and public sources, it is less restricted in the business sectors to which it can lend than a fund supported exclusively by the EU or Whitehall. The company can therefore react to changes in the lending policy of the commercial banks. It was able to provide funds to the Black Country Construction Fund, for example, when it became apparent that the banks were ‘over quota’ on lending to that sector and otherwise valid propositions were being rejected. Paul Kalinauckas saw the BCRS role in that instance as supporting local businesses.
The value of networking and partnerships
BCRS Business Loans does not advertise its services: 90% of its deal flow comes from referrals. Apart from the banks introducing their clients, the company works with partner organisations who are already working with candidates for funding. This generates new business streams and permits the funding of projects where a deal would exceed its lending limit.
Consummate networkers, the BCRS business development team brought Trade & Export Finance (TAEFL) into their orbit in 2015 and have co-funded a recent acquisition in the West Midlands engineering sector. In this instance, BCRS made a £50,000 loan available to the client, with TAEFL organising £130,000 through a peer-to-peer loans platform.
To the extent that TAEFL is a commercial lender with its own shareholders and funders to service (many of them from peer-to-peer platforms), can the two organisations work together effectively with such different funding models? Paul Kalinauckas was keen to focus on the commonality: “It was refreshing to find that Trade & Export Finance has the same value set as BCRS Business Loans. We share an obsession with customer relationships. It was evident that they genuinely care about clients and have the backing of entrepreneurial people who can make it happen. They liberate businesses from the problems which hold them back.”
BCRS Business Loans has been lending money to the SME community for the best part of fifteen years. The fact that its annual lending continues to grow suggests that Paul Kalinauckas and his team have cultured a business model that is sustainable. They could not have survived that long without a strong commercial ethic fine-tuned to the needs of the SME. They are idealists without illusions.