Enterprise Finance Guarantee scheme - Business and Enterprise Committee Contents


Memorandum by the Department for Business, Enterprise and Regulatory Reform

1.  PURPOSE OF MEMORANDUM

  1.1  To inform the Business and Enterprise Committee about the Government's Enterprise Finance Guarantee scheme and progress to date.

2.  BACKGROUND CONTEXT: THE LENDING MARKET

  2.1  The Government's approach to bank lending has been to: establish stability in the financial system; create the capacity for banks to resume lending; and support the recovery of the economy. The Government's focus, through the bank recapitalisation programme and the introduction of the Credit Guarantee and Asset Protection Schemes, has been to ensure first that the banks have sufficient capital, funding and liquidity and secondly that they utilise this to lend to individuals and businesses. The main UK banks have also committed to increase their lending to make up for the withdrawal of foreign banks from the UK and the reduced capacity of the smaller banks to lend.

2.2  The banking system lends £590 billion to businesses in the UK, of which approximately £120 billion is to small and medium sized enterprises (SMEs) with an annual turnover of less than £25 million. Figures from the British Bankers Association (March 2009) show that the stock of lending to companies with turnover of less than £1 million is £55 billion.

  2.3  Government has secured binding agreements to expand availability of credit with Lloyds Banking Group (an additional £3 billion in gross mortgage lending and £11 billion in net business lending over 12 months from March 2009) and Royal Bank of Scotland (an additional £9 billion in net mortgage lending and £16 billion in net business lending over the 12 months from March 2009). In addition, major UK banks whose capital and balance sheets are not directly supported by the Government have also made public lending commitments. For example, Barclays announced £11 billion of additional lending, to be split equally between mortgage and business lending, while HSBC has allocated £1 billion of its global working capital fund to UK business. This means around £50 billion in additional lending by the main banks above their 2008 levels of lending.

  2.4  The Government monitors lending regularly and has established a Lending Panel of the major banks and Ministers to monitor the flow of lending and recommend action to increase lending where necessary. The Government remains aware of issues around the terms of lending, and specifically the fees set by banks, but this issue is not discussed further in this Memorandum.

  2.5  These overarching measures to repair the banking system are designed to ensure appropriate lending to businesses on commercial terms: it is not Government policy, and nor would it be viable, for Government to substitute for commercial bank lending. Viable businesses should get the financing they need from commercial loans without direct Government support. However, the Government recognised that certain market failures persist, meaning some viable businesses are struggling to secure the finance they need through normal, commercial lending, and has therefore introduced a number of targeted schemes tailored to meet those specific failures. The Enterprise Finance Guarantee is one of these schemes.

3.  THE ENTERPRISE FINANCE GUARANTEE (EFG) SCHEME

  3.1  The Enterprise Finance Guarantee (EFG) is designed to operate at the margins of banks' normal lending activity to SMEs, allowing lenders to provide additional loans. The scheme supports viable companies that are at the margins of commercial lending because they have insufficient security or their proposal involves a higher risk of loss at default. It exists to help viable businesses during an unprecedented period of tightened credit conditions, and is not designed for the majority of viable businesses to whom banks should lend; nor is it intended for businesses who are not viable and that banks are rejecting on that basis. Instead it is targeted at a "grey area" between these two segments: where the business has a long term future but, particularly in the current economic conditions, is judged too high a risk for normal commercial lending, and where a lender would be prepared to take some risk of loss if that risk is also shared with the Government.

3.2  EFG will therefore only ever account for a small proportion of bank lending: it currently represents between 1% and 2% of the total amount of money lent to SMEs in the UK, providing £1 billion of loan guarantees to enable banks to lend up to £1.3 billion[1] to businesses with turnover of less than £25 million. The scheme will run until March 2010. Lenders have to demonstrate that EFG loans are additional to normal commercial lending.

  3.3  Businesses with an annual turnover of up to £25 million[2] can apply for loans from £1,000 to £1 million, which is repayable over a period of between three months to 10 years, although certain sectoral restrictions apply (see 3.15 and 3.16 below). EFG can be used to support:

    — New term loans with terms of between three months and 10 years.

    — Existing lending which may be refinanced where the loan is at risk due to the deteriorating value of security.

    — The conversion of part or all of an existing overdraft into term loan to release capacity in overdraft to meet working capital requirements.

  3.4  A flow chart showing how a business applies for an EFG loan is at Annex A.

  3.5  The "additionality" that lenders are required to demonstrate is important because it is not appropriate for Government to act as a substitute for banks' normal commercial lending. The Government looks to the lender to apply commercial rigours to lending decisions and to obtain collateral security from the borrower where appropriate. In guaranteeing the loan, the taxpayer is taking a risk. It is therefore right that the risk is shared by the lender and the borrower, as it would be for a normal commercial loan.

  3.6  The Guarantee provides the lender with a 75% guarantee on individual loans. However, the Government's exposure to liabilities under EFG is limited to a default rate of 13% of the lender's total portfolio[3]. 13% is the maximum default rate for a guarantee scheme in order to ensure compliance with EU State Aid rules. The overall cap on the level of liability Government takes on the scheme ensures that taxpayers' money is not used to support artificially failing businesses and that banks do not withdraw financing from businesses that are fundamentally viable in the longer term. It would undermine both the banking system and productive entrepreneurial activity if the Government were to take risk that banks and entrepreneurs ought to be taking themselves.

  3.7  For guaranteeing up to 75% of each loan, the Government requires from the borrower a premium which is set at 2% per annum. This rate being the standard market price for premiums was agreed after consultation with the banks. There is a 25% discount this year: for all premiums due and successfully collected during 2009 the rate is 1.5%. This premium will be on top of the fees charged by the lenders in line with their normal commercial lending practices.

  3.8  Table showing the major differences between SFLG & EFG.


SFLG
EFG

Driver/purpose behind schemeTo address long standing problem for SMEs without collateral and insufficient personal security Targeted intervention for viable SMEs, close to the margins on risk, who cannot access debt finance during times of tight credit conditions.
SME EligibilitySMEs with turnover <£5.6 million SMEs with turnover <£25 million
Size of eligible loans£5k to £250k £1k to £1 million
StructureNew loans for working capital purposes could not be used to convert existing overdraft borrowing to loan Can convert part or all of existing borrowing on overdraft, provided additional new lending granted, for working capital purposes.


Sectoral restrictions

  3.15  When the scheme was launched it had the same sectoral restrictions as the Small Firms Loan Guarantee scheme (SFLG). BERR has recently reviewed the sectoral restrictions in light of changes in state aid rules and with a view to making EFG open to as many viable businesses as possible. Since 1 March 2009, a further 300,000 businesses have been eligible for EFG. EFG is now open, amongst others, to tied public houses, medical and health services provided by the private or independent sectors, and businesses in the steel and shipbuilding sectors.

3.16  Partial restrictions remain, eg in agriculture, transport and aid for financing export orders (in line with EU de-minimis state aid rules), for banking, finance and associated services (under the Industrial Development Act 1982) and for formal education (for policy reasons). Businesses in the coal (EU de-minimis rules) and insurance sectors (IDA), and publicly owned bodies (for policy reasons), remain excluded. Lenders will advise businesses if any sectoral restrictions affect the business when considering loan applications.

Personal guarantees

  3.17  In the guarantee scheme, the Government looks to lenders to apply commercial rigours to lending decisions, including obtaining collateral security from the borrower where appropriate, although excluding primary personal homes given the current economic situation. Almost all small firm lending, whether or not it is under the guarantee scheme, has some form of security provided for it. If tangible security is not available or is insufficient at the time of borrowing then an unsupported personal guarantee, excluding primary personal homes, may be accepted, allowing assets built up to be pursued in those circumstances where a loan defaults. When personal guarantees are asked for, this is recognising that risk is shared between the bank, the business and, with a Government guarantee, the taxpayer.

3.18  The Government decided on the basis of consultation with banks and small business organisations that lenders could be entitled to ask for personal guarantees, as the scope of the EFG intervention is wider than the previous Small Firms Loan Guarantee Scheme and should be consistent with commercial banking practice: it would be wrong for Government to take on risks that entrepreneurs themselves are not prepared to take despite their having personal assets that enable them to provide such a guarantee.

  3.19  Since the introduction of the EFG, the Government issued a clarification on 19 February to make it clear that banks should not directly take the principle private residence as security against a Government backed loan. The Government is monitoring the situation to ensure appropriate behaviour by the banks and will look carefully at any case submitted by an SME or Member of Parliament on behalf of a business where banks appear to have asked to take the principle private residence as new security for a new EFG loan.

Delivery and distribution of EFG

  3.20  There are now 26 lenders taking part in the EFG (list at Annex B), of which 21 have already made some loans. Capital for Enterprise Limited, are responsible for the accreditation and monitoring of lenders on behalf of the Secretary of State.

3.21  All decision-making in relation to the use of EFG in connection with individual loans is delegated to the lenders. Lenders should continue to apply their normal commercial checks: the use of EFG will only be contemplated by the lender once they have established that the borrowing proposition satisfies their normal commercial criteria.

Promotion and awareness

EFG lenders

  3.22  After EFG was introduced BERR invested in a mystery shopper exercise of main lenders and found that over 75% of those surveyed had a good awareness of the EFG. The mystery shopper exercise was carried out at after six weeks of the scheme; further improvement can therefore be expected since this was conducted. Following this exercise, the Government committed to work closely with the EFG lenders to improve the consistency of understanding about the more detailed aspects of the EFG—for example, in particular in respect to personal guarantees. All the main banks have agreed to develop action plans to increase knowledge and application of EFG amongst its frontline staff, and we are monitoring these closely.

SMEs

  3.23  The February BERR SME survey shows 40% of SME employers were aware of Government guaranteed loans being available from the banks (this survey was carried out around four weeks after the scheme's launch). The next survey will be carried out next month.

3.24  The scheme has received considerable publicity in the media since its launch in January. It has also been widely promoted to the private sector via:

    — The Real Help Now Website.

    — Regional Road shows attended by BERR and Regional Ministers.

    — Full page adverts in national press.

    — Weekly delivery updates.

    — Business Link.

    — Banks.

    — The Federation of Small Businesses.

  3.25  The work to promote awareness of the range of support available will continue.

EFG Progress data provided by Capital for Enterprise Limited as of 27 May 2009

  3.26  An EFG web portal, provided by BERR and managed by Capital for Enterprise Limited, enables the lender to manage the EFG-specific elements of individual loans from the initial eligibility check throughout its lifecycle. Most recent data (as of 27 May) from the web portal is set out below.

3.27  The cumulative total of cases entered on the web portal is 4,248.

  3.28  Cumulative total number of loans which are eligible, offered and drawn[4]


No eligible
3,811
Value
£423 million
No offers
2,668
Value
£251 million
No drawn
1,705
Value
£154 million


  This rate of usage indicates the scheme will meet its target of guaranteeing up to £1.3 billion by the end of March 2010.

  3.29  Loans offered to business by turnover

  Of 2,668 EFG loan offers:

    — 70% were to businesses with turnover up to £1 million.

    — 28% were to businesses with turnover of £1 million-£10 million.

    — 2% were to businesses with turnover of £10 million-£25 million.

  3.30  Number of loans offered to businesses by size of loan


Less than £25,000
520
Between £25,001 to £50,000
745
Between £50,001 to £100,000
689
Between £100,001 to £250,000
544
Between £250,001 to £500,000
123
Between £500,001 to £1,000,000
47
Total
2,668


  3.31  Number of offers made by region:


No
Ratio: No of EFG new loans
offered per 10,000 businesses
[5]

South East
413
5.2
East of England
342
6.3
London
307
3.9
South West
299
6.7
North West
286
6.2
West Midlands
257
6.5
East Midlands
169
4.9
Scotland
174
5.4
Yorkshire & Humber
160
4.3
Wales
146
6.9
North East
98
7.2
Northern Ireland
17
0.9
Total
2,668


  3.32  Number of days taken between eligible and offered loans


No of days taken from "Eligible" to "Offered"
%

Same day
41
1-7
44
8-14
7
15-21
3
22-28
2
29-35
1
36-42
1
43+
1


  3.33  The figures above show that it takes up to a week for the majority of loans to be processed from "eligible" to "offered" status, consistent with approval time for a normal bank loan. Participating lenders will update this portal at different stages, depending on their own internal and different lending procedures and processes which can affect when data is inputted on the portal. There should be no additional delay for a company to have an EFG-backed loan instead of a normal loan, as this only requires the company to answer three or four additional questions as part of their normal loan applications. However anecdotal evidence was raised in the small finance forum that one or two banks were applying an additional screening (and consequent delay) for loan applications under the scheme. We have investigated this with the banks concerned and are working with them to streamline their processes. We will continue to review process times with a view to seeking reductions wherever possible.



 
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Prepared 24 July 2009