Memorandum submitted by Growthwire

 

1. Introduction

Growthwire is the 'official' newswire of the Growth Markets Organisation (GMO), based in Melbourne. GMO has been established to promote awareness of and liquidity for the 80 or so stock exchanges worldwide that specialise in bringing growth companies to IPO.

Growthwire is UK domiciled and began its global roll-out in June, 2008 with the mission to release the flow of information between companies and investors in order to enhance liquidity.

However, most relevant to the evidence presented to this session of the Business and Enterprise Committee, is that Growthwire has also been built to attract, organise, collate and distribute the mass of information generated by the global small-cap/high volume start-up to pre-IPO private equity market, one million capital raisings worldwide at any one time, with a good share of a potential $17.5 trillion in available capital, which we have defined as 'entrepreneurial investment'.

2. 'Helping' SME's

The focus of this session is on how SME's can be 'helped'. However, we take the view that SME's, and the entrepreneurs who drive them, have always delivered half of GDP and more than half of all jobs without help from anyone. It is only in the past two decades that things have become progressively more difficult for them. This was caused, most specifically, by flawed legislation in the 1986 'big bang' Financial Services Act, exacerbated by FSMA2000. Whilst liberating the City and its mainstream markets, with consequences we are now having to deal with, both these Acts effectively cut off the vital flow of risk capital from wealthy, seasoned entrepreneurs into wealth creating SME's. Simultaneously, promoting the received wisdom that bank loans are the only way to fund a business.

The first step towards rectifying this situation was achieved with the introduction in March 2005 of 'self-certification' Amendments to FSMA2000 (Financial Promotion Orders 2001) which, effectively, allowed wealthy and successful entrepreneurial investors to remove themselves from the protections offered to mainstream investors by the Acts. These Amendments are the reason Growthwire is domiciled in the UK.

3. Bank Lending to SME's

The traditional security for lending to SME's is the family homes of the entrepreneurs that lead them (directors guarantees). It is essential that there is some level of security as, depending on whose figures you believe, between 40% and 60% of start-ups fail, usually in year three as a result of inexperience, under-capitalisation, or both.

In our view, which should be verified by the banks, some banks are pulling back on their exposure to the SME lending sector because:

a) the collateral value of property is falling and envisaged to continue falling for the foreseeable future.

b) the inherent risk of lending into the SME stratum is already well established.

c) good banking practice in the current economic climate dictates an even more cautious approach to this higher than average risk lending sector.

d) some banks that have received 'rescue' re-capitalisation feel a responsibility to taxpayers who have provided funding from the public purse.

4. Guaranteeing Small Business Loans

There has been talk of extending the Small Business Government Loan Guarantee Scheme, which was established to assist those with no assets against which loan funding could be secured to start their own businesses.

The EU has already made 4 billion of SME loan guarantees available to UK banks and HM Treasury is considering extending this facility with additional funds. In both instances, this is taxpayer's money being risked in the commercial, high risk lending business and, in the UK's case, quite possibly funded with loans secured by the government itself. In our view, a process fraught with risk at many levels.

Whilst sympathising with the plight that many SME's now find themselves in if the banks, with all their experience of lending to SME's, are adopting a super-cautious approach at this time, is it prudent to risk taxpayers money guaranteeing loans that the banks are not prepared to underwrite themselves? Also, what will be the checks and balances to ensure that the banks do not draw down on the guarantees for even lower risk loans?

Also, the question that will be asked by many is: Does any chancellor have the authority or mandate to risk taxpayers money in this way?

5. Alternative Funding Source

The White Paper presented with this evidence highlights the 'entrepreneurial investment' culture, and we will not repeat here what is already presented in the White Paper itself. However in addition to that, the following data is relevant:

a) Research in June 2008 by the Scorpio Partnership, a specialist strategic advisor to the global wealth management industry, revealed that there is now US$17.4 trillion of private wealth under management worldwide. 

b) A report in November 2007 by IFSL (International Financial Services London) said: "The main source of growth in private wealth originates from those involved in building successful businesses... entrepreneurs that have become millionaires."

c) In October 2007 the British Bankers Association reported that alternative investment is now in the investment mainstream for wealthy individuals.  (Growthwire - 'alternative investment' includes private equity investment in early-stage companies by wealthy, successful entrepreneurs)

d) Anecdotal data from Australia and the USA, combined with extrapolated data from the Cruickshank Report into Competition in UK Banking in 2000 and more recent research using Companies House and private company shareholder data, indicates that there are some 10m wealthy entrepreneurs who would invest in one million capital-starved growth companies, worldwide, at any one time. In the UK, these figures are c250,000 and c50,000 respectively (the latter is probably higher at this time).

Deal values vary between 10,000 and 5 million with a 'peak' of around 250,000 which is a funding gap that banks, even in normal circumstances, cannot provide.

e) Research from various sources over two decades is consistent in showing that deals must be easy to identify, have a professional interface to the transactions and protect the investors' identity until they are prepared to reveal it, all of which Growthwire provides.

In the light of all the evidence, we believe that risk is best handled by those who know how to manage and exploit it - the entrepreneurs themselves. It is from within the entrepreneurial investment culture that risk capital for wealth creating enterprises has always been provided. This has only ever been supported or augmented with bank lending and various forms of asset finance. As already explained, this long established culture has been undermined by flawed legislation over the past two decades.

6. The Flaw Explained

'Financial Promotion Orders' in the 1986 and 2000 Acts were written by mainstream market advisors and legislators in the interests of mainstream market participants. The 'financial promotions' referred to were, effectively, investor protections incorporated into IPO's and other mainstream financial documents and products.

However, the law of unintended consequences meant that the core document in the entrepreneurial investment culture, the business plan, was also swept up by this legislation and within two or three years following 1986, the free circulation of business plans (information, essential to liquidity) ceased. The legislation meant that in the event of an entrepreneurial investment failing, as many do, the investor would have recourse to whoever had passed the business plan onto him. No-one was prepared to take this risk and so business plans began to gather dust in the offices of accountants and business consultants from where distribution usually began.

The 2005 amendments have set the stage for the return of the entrepreneurial investment culture where risk, and the informed exploitation of risk, is a natural part of the process.

This is explained further in the Growthwire White Paper accompanying this evidence.

7. Conclusion and Proposal

It is difficult to be precise, but we believe that in the UK there is some 5 billion of 'entrepreneurial investment' funding available to capital-starved SME's, right now, from wealthy, successful entrepreneurs and corporate venturers.

The Growthwire 'engine' is now rolling out worldwide as a normal commercial media enterprise. However, were it to be made freely available to the UK SME/entrepreneur community this huge, latent capital resource could be rapidly released into wealth creating SME's.

There would be no need for government to offer 'help' in any cash form other than to provide and promote this facility, 'white labelled' perhaps as a DTI or HM Treasury initiative. Entrepreneurial investors themselves will decide, in the light of their own market knowledge and wealth creating experience which deals are of interest to them and suit their own business interests prompting them to invest either with cash, through corporate venturing or a mix of both.

In effect, entrepreneurs themselves deciding which enterprises have wealth creating value, rather than banks or civil servants administering a taxpayer funded loan guarantee scheme - in a high risk lending stratum.

When deals are completed the banks will need no encouragement to lend, bearing in mind that the borrowers will be properly capitalised and, invariably (and equally valuable), with a seasoned entrepreneur on the Board introducing wealth-creating experience as well as capital to the enterprise. In reality, many deals are conditional on bank participation before capital is released into the company.

Indeed, such an initiative could well position the UK to be the first to emerge from the coming recession with a genuine 'community' of SME's, entrepreneurial investors and banks working together towards recovery and onward growth.

8 December 2008