Steady as she goes
21 Dec 10
With bank balance sheets looking weak, and with a forecasted ‘spike’ in demand for bank finance as facilities are renewed, how healthy will company cashflows look in the next year? Robert Outram asks the banks and financial advisors...
by Robert Outram
As the UK economy falters into recovery, we are entering a dangerous phase. Growth brings about demands on working capital and in previous cycles, this has caused at least as many businesses to go under as the recession itself.
Bank finance is crucial to ensure that businesses with the potential to grow profitably do not fail for want of cashflow. But the banks’ own balance sheets are weaker than in previous recessions, and financial experts predict that demand for finance will “spike” in 2011 and 2012 when many previously agreed banking facilities come up for renewal.
We put these and other questions to the banks themselves and also to financial advisers. What will bank finance look like through next year?
Many businesspeople and their advisers feel that bank finance has become both expensive and hard to obtain, and that the decision-making process as regards extending credit has become slow and tortuous. Is that a fair view?
Scott Taylor, director of corporate finance at Hall Morrice, says: “Bank finance has certainly become very much harder – and more expensive – to secure in 2010. However, it’s being brought back to a proper commercial rate. Finance was arguably far too inexpensive. Two years ago, before the banking crisis, commercial rates for businesses were between 1 and 2.5 per cent over base. This has moved in 2010 to somewhere between 2.25 and 5.5 per cent which in my view is where it should be to properly reflect risk.
John Rendall, CEO of HSBC in Scotland, comments: “On average, the level of risk in the markets in which businesses are operating has increased. This in turn is reflected in our measurement of the risk we are taking with depositors’ money when lending to those customers. This varies by sector and by business and can affect both pricing, the amount that we’re prepared to lend and the ways that we’re providing that support, for example, structure of facilities.”
Alasdair Gardner, managing director of Lloyds Bank Corporate Markets in Scotland, says: “It’s important to recognise that price isn’t everything. Many of our customers value the expertise we provide and most of our new customers come to us because of our approach. Pricing reflects many things including LIBOR rates, but also longer-term wholesale market costs.
“Our Scottish customers have been getting on-the-ground credit decisions made by credit teams based in Scotland. Our credit analysts even take the time to go out and meet our customers. That has not only reduced the potential for delays but has also helped customers to understand how best to fund their businesses.”
Simon Blake, corporate finance partner with Price Bailey and chairman of the UK200Group corporate finance panel, says: “Fewer clients have been looking for bank finance in the first place. Banks are taking a harder look at every proposal, and certainly looking for more risk protection in the form of security, headroom and covenants. Borrowing is more expensive, but for most, this is acceptable as there is an understanding that debt had become too easy, too cheap and misused.”
Kevin Windram, corporate finance director at RSM Tenon, says: “Time and time again, we’ve seen companies struggling to convince the banks to lend, and to access funding within a reasonable timescale. The level of security that clients are being asked to provide has also increased.”
Graham Galloway, managing director, RBS Business & Commercial Banking, Scotland, argues: “It’s fair to say that we are asking a few more questions of customers now than we did previously, but that is what you’d expect to see from a prudent lender when businesses face a challenging environment. We can turn requests round in a matter of days if we have the necessary customer information.
“We’re doing as much as we can to inform customers about the information we require so their lending applications have the best chance of success. It’s also worth noting that we continue to approve 85 per cent of lending requests, consistent with approval rates prior to the financial crisis.”
Do you see the availability of finance easing through 2011?
Simon Blake is optimistic: “2011 should improve for two reasons – firstly, banks do need to lend to make profit. Secondly, we are seeing many more entrepreneurs now looking at acquisitions, strategic investments and growth than six months ago and this will drive lending.”
Kevin Windram says: “Although the situation won’t necessarily worsen, it certainly doesn’t look as if it is going to get any better any time soon. Despite the banks’ assertion that they’re ‘open for business’, this certainly hasn’t been the experience of many of our clients.”
Scott Taylor’s view is: “Lending may ease in 2011, partly because of prospective borrowers knowing what to expect and grooming themselves before approaching lenders. The banks have finalised their various internal restructures, addressed the majority of their distressed lends and are focused on supporting their customers... although progress is slow, I anticipate access to bank finance to ease throughout 2011 but in no way to reach pre-2008 levels.”
Ally Scott, managing director, Scotland, Barclays Corporate, argues: “A look at the approval rates would counter the suggestion that banks are risk averse. Ours have remained relatively constant over this period as well, even throughout the recession. This is not to say conditions haven’t changed, which affects both the business seeking to borrow and the bank’s ability to lend. If the value of collateral offered has decreased in value due to prevailing economic conditions then the amount of money based on the accepted loan-to-value criteria will be adversely impacted.”
Richard Waldman, regional managing director at Aldermore Invoice Finance, says: “My gut feeling is that the availability of finance will stay close to its current level throughout 2011. There’s a possibility that it might ease very slightly as the economy strengthens and banks rebuild their balance sheets. It’s unlikely that the situation will get worse unless there are more devastating national failures on the scale of the Irish crisis.”
According to John Rendall: “We expect 2011 to be characterised by continuing economic uncertainties, so my best estimate would be that we’ll have something that looks a continuation of a gradual easing in the availability of finance. We have seen over recent months a number of encouraging indicators. This is reflected in our UK trade finance lending data which shows export finance up 40 per cent on last year. For HSBC, new lending to SMEs is up 26 per cent year on year and, although our total balance sheet for the UK is flat, the market average is down five per cent.”
Similarly, do you see the cost of finance falling?
“Our appetite to lend to creditworthy businesses will remain strong,” says Graham Galloway, “and we have the funds available to match that appetite. If you look at the EFG [Enterprise Finance Guarantee] scheme, RBS atWest has offered loans of nearly £500m (of which more than £450m has drawn) through the Government’s EFG scheme (a total of £1.1bn has been lent through the scheme). We have also lent nearly £450m through the European Investment Bank’s small business loans scheme.”
Donald Kerr, commercial banking director, Bank of Scotland, says: “We made firm commitments to small and medium-sized businesses in our 2012 charter and through these pledges, to encourage enterprise, boost access to finance and provide clearer pricing, we can help Scottish companies grow, aiding economic recovery in Scotland. As part of Lloyds Banking Group, we made £300m available to SMEs in the first half of 2010 and we’re committed to continuing to provide finance to viable SMEs throughout 2011 and beyond.”
HSBC’s John Rendall says: “Recently, we have seen forecast rates staying lower for longer. Our latest forecast is for the base rate to stay at 0.5 per cent throughout 2011, before rising in 2012 to finish that year at 2.0 per cent. We’ve seen a gradual increase in competition, in Scotland, through 2010. This is healthy and it may well impact on interest margins for stronger customers, albeit gradually.”
Some commentators have expressed concern that the bank facilities up for renegotiation/renewal represent a ‘spike’ in demand that the banks may find it hard to meet. Do you share those concerns?
Simon Blake says: “Many of the very highly leveraged transactions of the noughties will have facility reviews in the near future, and this is likely to cause problems. However, in most cases there are sound underlying businesses and while the investment vehicles may become insolvent, I suspect many trading subsidiaries will be sold as going concerns, so there is likely to be an opportunity for entrepreneurs.”
Ally Scott advises: “Identifying the best moment to refinance bank debt is a challenging task. There may be a temptation to hang off from engaging with lenders in the hope that spreads may come back down before the maturity date. Delaying until maturity could, however, potentially leave businesses exposed. Ideally, a corporate should engage early and openly with its banks at around 18 to 24 months before maturity, allowing time to build and maintain close relationships and to identify and secure the best deal. Many finance directors are doing precisely this.”
Have your customers turned, or have you advised them to turn, to alternative sources of funding?
Richard Waldman says: “Whether due to an inability to source funding or an unwillingness to absorb a rate increase, this will leave a lot of SMEs looking to source funding elsewhere, and invoice finance will be well placed to support them. Many invoice finance companies have the cash and the appetite to lend, but those owned by the mainstream banks may be cautious of churning funds into a different division of the same organisation.”
“Invoice finance is a very attractive proposition,” Scott Taylor says, “once the client understands how the product works and the higher levels of funding at competitive rates that can be accessed relative to, say, funding via overdraft.
“There still appears to be a significant gap in the market for a mezzanine finance product – above bank debt level and below traditional private equity sources. The Capital for Enterprise fund was a good example of a successful product and remains one of the largest single investors in UK venture capital funds with £566m committed to 40 venture funds. It would be very encouraging to see the Government support a second round.”
Finally, some from the banking sector make the point that it is easier to lend to businesses that can provide timely and accurate financial information. Is there a role here for accountants?
Windram says: “Accountants play a crucial role in educating and supporting business clients. We’ve seen more and more businesses failing even to get an audience with funders – and if they do, any discussions will be short-lived if they don’t have up-to-date, accurate and reliable financial information. This is no longer a tick-box exercise for funders.”
Scott Taylor agrees: “Firms like ours have been educating businesses about having robust management accounts for years. What we have seen lately is new companies approaching us for this function when it is often too late for them. All companies should have accurate financial information and any company which experiences debt problems needs to work with professionals to assist them as soon as they know problems are ahead.
“Any corporate finance team which is not working to educate their clients to the importance of management accounts frankly isn’t doing a professional job.”