Government Assistance to Industry
Memorandum submitted by the Black Country Reinvestment Society
The Black Country Reinvestment Society (BCRS) was established in 2002 as an Industrial and Provident Society, initially to provide CDFI-style finance to social enterprises and SMEs in the Black Country. Geographically the Black Country comprises the local authority areas of Dudley, Sandwell, Walsall and Wolverhampton. BCRS has also recently expanded to cover Staffordshire. By most social and economic indicators, the Black Country ranks as one of the more impoverished in the country. Furthermore, the structure of the private sector in the area is predominantly composed of SMEs, often very small, especially in the component manufacturing sector.
BCRS currently provides small business loans ranging from £10,000 to £50,000, and continued to provide such facilities through the recent credit crunch - a period when the main high street banks severely tightened their lending criteria or actually exited this segment of the market. As a result, more businesses turned to BCRS for access to finance and in 2009, our last reporting year, we lent £1,368,000, our total loan book exceeded £2 million and cumulatively since our establishment we have issued over £5 million of loans. While we have moved from a social enterprise emphasis toward a more SME focussed strategy, both in response to demand and to broaden and diversify our portfolio, we continue to offer the full range of CDFI products.
The success of our strategy is founded on our ability to combine private-sector sourced funding, including that from high net worth individuals, with that drawn from the public sector, both grants and funding, as well as from the co-operative and benevolent sectors. Through leveraging on these funds, we have been able to increase the economic impact on that funding. Furthermore, the public sector funding has been crucial to provide funds to establish provisions, to cover the real risks of lending into this market segment, as well as to attract other fund providers. Current public funding streams are in place to 2011.
Since 2002, we have built up an effective business and credit infrastructure, to enable both the monitoring of the performance and crucially, the risk of our loan portfolio and to provide confidence to funders. As a result of operating at the riskier end of the market, we have sharpened our analytic capabilities, ability to identify potential and innovative commercially-viable borrowers and thus reduce our provisioning requirements. The withdrawal of the commercial banking sector from this market has enabled us to service this unmet demand and scale up accordingly
The role of the Department of Business, Innovation and Skills in supporting industry
Given the range and scale of initiatives being pursued by the Coalition Government, the new role and scope of the BIS Department is only now emerging. The replacement of regional-level delivery by more locally-based systems, principally but not exclusively the Local Enterprise Partnerships (LEPs) will take time to be established, however it does appear to allow for a more local initiative driven process. How the Department accommodates these re-invigorated local demands for economic development and business support will be critical. Evidence from other market economies suggest that consistency of delivery over the medium-term is a significant factor in determining success, as it allows the wider economy to develop business strategies that can accommodate and respond to policy.
The effectiveness of existing Government assistance programmes
The recent data for the EFG is that there is a marked reluctance on the part of either the banks or the potential SME customers, or both, to use the facility. It would seem more appropriate to allow such financing vehicles as EFG to be deployed by institutions that can and are willing to operate at this end of the market. This would require a restructuring of the current EFG product to meet the demands of the SMEs sector, the institutional capacity of potential lenders and crucially the desired policy objective of the Coalition Government
The relationship between the Government, industry and the banks, and the role and performance of the Small Business Banking Forum
Based on anecdotal evidence, we would suggest that apparent liquidity hoarding by banks is proving to be a major constraint in restoring proper functioning credit markets. While it is understandable that the impacted banks seek to replenish depleted capital resources, this has not helped restore access to finance for corporates, particularly SMEs. Furthermore, given the huge losses sustained, it is also an understandable reaction by banks to adopt credit and lending strategies that are extremely cautious, with tight conditionalities and narrower risk margins, both for existing facilities and future loans. This obviously, imposes a burden on the SME sector. Nevertheless, the massive losses that the main banks incurred were not as a result of widespread economic or commercial failure, at least initially, in the real domestic economy, but the result of severe risk and appraisal failures by banks of their positions taken in other sectors and internationally. From our perspective, to finance a private sector recovery, there are two separate, though intertwined, issues that need to be addressed. The first issue is the solvency and operations of the banks and the wider financial sector. The second, though not unassociated, issue is how to establish credit markets that can effectively supply finance to the real domestic economy, and given our focus, to the SME sector.
From our perspective, the SME sector is, if anything, grossly under-banked with a dearth of effective facilities that could foster expansion. The larger universal and high street banks have historically been reluctant to service a sector that is seen as more volatile despite greater dynamism, more complex although offering greater returns, and requiring relationship-driven, more simple plain vanilla lending products than more exotic, mathematically-satisfying transaction-driven facilities. In other comparable economies, particularly where the private-sector is seen as the principal wealth creator, banks play a still significant but less dominant role in providing capital resources to fund business growth. This opportunity provided by the Coalition Government offers the possibility of re-emphasising the strengths of the British financial sector, and complementing these by expanding and intensifying the role of non-bank financial institutions that can provide credit and capital products, facilities and services that have been traditionally shunned by universal banks. CDFI-type structures offer some potential, but the real void in the market is between CDFI-level loans, that are more normally available up £10,000 and corporate bank products, for which it is generally difficult to find availability below £1,000,000. BCRS currently lends up to £50,000 but for a variety of reasons, both regulatory and capital capacity, has not yet been able to offer amounts that would be credible to the larger SMEs. Realistically, our current estimated potential deal pipeline is considerable, roughly double our current loan portfolio, which we take as indicative of the strength of the demand for working capital and finance, in the Black Country, that is not being met by the high street banks.
The performance and role of UKTI and the Export Credit Guarantee Department
Although our operation is largely domestically focussed, we increasingly deal with SMEs that are attempting to take advantage of the renewed international competitiveness of the British economy. Unfortunately, the size and scope of facilities that ECGD offer tends to be beyond the capacity of the SMEs that BCRS deals with. However, this ignores the innovativeness of the sector and the potential that properly structured (commercially-viable) financial products could offer to capture this dynamism and enhance export potential. The regional UKTI has been proactive in responding to the SME sector, but their initiatives could be deepened if the right mix of financial support could be put in place and structured realistically to meet the requirements of SMEs.
Steps to encourage inward investment into the UK
It is beyond our remit to comment on the overall framework for attracting inward investment into the UK. However, one of the key advantages, indeed critical comparative advantages of Britain is the vibrancy of our SME sector, which provides the economic hinterland that enables foreign direct investment to flourish. In the Black Country, the SME sector largely comprises component manufacturers who supply key products and design to major industrial corporations both regionally and globally. These products are unlikely to dominate the headlines, but are critical, and include: radiators and kinetic transmission for Formula 1cars; brake-pads for heavy haulage; bespoke saddles for national Olympic squads; stadia convertors to enhance multi-purpose functionality and high specification paint processes for the London Eye. Thus whiles the national framework, tax incentives and currency performance are important, BCRS would like to suggest that the structure, flexibility and capabilities of the local economy is influential in attracting inward investors. It is therefore vital to sustain Britain’s attractiveness, that the SME sector has access to adequate financial resources.
Government policy as set out in A Strategy for Sustainable Growth and the Green Paper on Business Finance
The Coalition Government’s new strategy has undoubtedly made available fresh opportunities, and the attempt to stimulate greater local ownership of economic development and business support could prove successful. Nevertheless, the structure of the delivery framework will have a significant impact of the success, particular given the current financial and fiscal constraints. The role occupied by the regional development authorities should not be understated, and it is difficult to envisage, unless the resource issue is adequately addressed, how LEPs will be able to facilitate this role. Enhancing the role of private and mutual financial (both bank and non-bank) institutions, and their capacity to prudentially leverage on financial and fiscal flows, could have a considerable role to play in successfully achieving the Coalition Government’s objectives for business support and economic growth.
23 September 2010
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