Debts & Loans

Perhaps I will be swimming against current opinion when I say that, for the first time in 30 years as an entrepreneur, I feel sorry for the banks.

Like many of us who have survived past recessions I, too, have been on the receiving end of suddenly withdrawn overdraft facilities.

In 1991, the time of the last property crash, I was retained as chief executive of a self-build company, the only sector of the property industry that was on a growth curve in which we were starting to grab our share.

Unfortunately, the directors (unknown to me) were running the business on a colossal overdraft.

When they went to the bank to collect the wages cash for 30 employees, they were told that the overdraft had been withdrawn.

This all happened the week before Christmas.

Safe as houses

Yes, life can be tough, but no matter what, we have to face the realities.

Anyone who has founded an SME - short for small and medium enterprises - will know that the most difficult decision when starting out is to put the family home on the line as collateral for that initial business loan.

We all swear that we will never do it, and then go ahead and do it because we are totally confident in our wealth-creating abilities.

But let's be honest, most of us take a hit or two before we get it right and, from the banks' standpoint, these hits translate directly into high risk lending.

Which is why, in turn, they want our houses as collateral.

Vilified banks

But in many ways the banks themselves, or at least the financial establishment within which they operate, have now seen to it that there is no longer any inherent value in property as collateral.

In writing down the value of this collateral, they write up the risk exposure to current and new loans.

This is the reason why interest rates are rising, overdrafts are being withdrawn and the volume of new loans is reducing.

So now the banks, after being (justifiably) vilified for lending too much, are being vilified yet again simply for exercising sound banking practice in protecting depositors' money.

In some instances, they are also protecting re-capitalisation funds provided directly by the tax-payer, by reducing exposure to SME lending.

The banks are responding to this controversy as best they can by hosting "advice" sessions, giving notice for withdrawal of overdraft facilities, playing with interest rates and other initiatives, and you can sense that their public relations departments have been working overtime to come up with stuff that sounds halfway meaningful.

Unintended consequences

None of this detracts from the reality that SMEs will be directly impacted as the banks reduce their lending exposure in this sector.

Perhaps this is a good thing.

In my view, SMEs have become far too reliant on debt funding, which directly restricts growth and which has come about from a received wisdom, progressively promoted over the past two decades, that bank loans are the only viable way to start and grow a business.

This began with the 1986 "big bang" Financial Services Act and was exacerbated by "Financial Promotion Orders" contained in FSMA2000.

Both these Acts focused on "investor protection" and the law of unintended consequences meant that the core document in the well-established entrepreneurial investment culture, the business plan, stopped circulating.

Would you pass on a business plan knowing that, if the deal went pear-shaped (as they often do), someone could come back and sue you for their loss?

The flow of information, essential to liquidity in any market, ceased.

Thus was the tap for the primary source of risk capital for wealth creating entrepreneurs, investment from their wealthy and experienced peers, turned off.

Wheels turn

In an attempt to rectify the situation the DTI's ill-fated "business angel" initiative was launched in 1995, and abandoned 10 years later after serving only to further fracture an already hopelessly fragmented entrepreneurial investment market.

It was reported that their National Business Angel Network (NBAN) did not manage to complete a single solitary deal throughout those 10 years.

The failure was due entirely to the DTI's ignorance of the key drivers for, let alone the initiation and transaction processes of, entrepreneurial investment.

But perhaps the wheel continues to turn.

In 2005, after sustained lobbying from those of us remaining in what had become a "twilight zone" investment market, amendments were introduced to FSMA 2000.

It is these amendments that will facilitate the release of several billions of pounds of risk capital from as many as 250,000 seasoned entrepreneurs into the UK's wealth creating SMEs.

Dangerous territories

In my view, this is the engine for recovery and growth to which we should look to get us through the tsunami of a recession that is now coming over the horizon.

Real risk capital invested in real wealth creating SMEs, usually reinforced by the investor bringing his market knowledge and experience to strengthen the board.

Often yet further reinforced with manufacturing, marketing, priceless connections and other resources from their existing business interests.

Surely, it makes more sense for the government to turn its attention to nurturing, rebuilding and, yes, exploiting the entrepreneurial investment culture than to fiddle about with small business loan guarantees.

After all these are guarantees using taxpayers money which, in turn, is money borrowed by the government and for which the taxpayer is liable, to support lending into a high risk stratum where even the banks fear to tread.