Six major British banks have joined forces to launch a £1.5 billion venture capital fund to kick-start funding to small and medium-sized enterprises and ultimately boost the beleaguered economy.
The fund, called the Business Growth Fund, will offer equity support to U.K. businesses with an average turnover of £10 million to £100 million and funding requirements of up to £10 million. It is at the centre of a string of proposals designed to help prop up the country’s financially stretched small business community.
“It’s a really good idea, but for it to have a significant effort on U.K. Plc it needs to be considerably more money than that—£1.5 billion is still quite small,” says Michael Baxter, editor of online magazine Investment and Business News. “It would be a lot more exciting if you put a nought at the end of that.”
If the Business Growth Fund invests an average of £5 million per company, it will be limited to backing just 300 companies. And if the £1.5 billion fund is invested over a number of years—some sources have suggested the capital will be invested over a decade—it will have even less of an impact on Britain’s small business sector each year.
To put the $1.5 billion amount into perspective, AIM, the junior stock exchange, raised £5.51 billion for companies in 2009 and has raised £3.76 billion in the first nine months of this year alone.
SMEs are particularly important as a source of job creation and growth. The [business finance] taskforce has agreed to a range of measures to help businesses get the advice and support they need, provide wider access to finance and deliver better customer service.”
Still, some VCs are happy to see any effort by the banks to help small businesses. “We welcome all initiatives that bring funding to this end of the market,” says Chris Allner, managing director of London-based venture firm Octopus Investments. “Since before the financial crisis, there has been a hole in funding provisions for smaller companies with only a fragmented array of initiatives. As the economy comes out of the downturn, it’s crucial that these companies get more support.”
That fact is, European venture firms pulled back as the economy contracted. European VCs invested €3.2 billion in 916 deals last year, down 41% from €5.1 billion invested in 1,234 deals in 2008, according to Dow Jones. DJ described 2009 as the worst year for venture investment in European companies since it began tracking the region in 2000.
The Business Growth Fund comes on top of measures already in place, including the U.K. Innovation Investment Fund, which aims to raise up to £1 billion to invest in technology businesses at all stages of development, and the £75 million Capital for Enterprise Fund, which is designed to help growing businesses that have been unable to raise funding because of the credit crunch. (The Capital for Enterprise Fund has already been invested.)
Final details for the Business Growth Fund are still being ironed out by the six banks behind the effort: Barclays, HSBC, Lloyds Banking Group, Royal Bank of Scotland, Santander and Standard Chartered. The group has been working for three months on a variety of measures to bolster support for businesses.
“SMEs are particularly important as a source of job creation and growth,” says John Varley, chief executive of Barclays and chairman of the business finance taskforce. “The taskforce has agreed to a range of measures to help businesses get the advice and support they need, provide wider access to finance and deliver better customer service.”
It’s a really good idea, but for it to have a significant effort on U.K. Plc it needs to be considerably more money than that—£1.5 billion is still quite small.”
The Business Growth Fund, which will be run on a commercial basis, has been compared to a Dragon’s Den-style investment project or the post-WWII raison d’être of private equity firm 3i Group. It has its roots in 1945, when the major British banks formed the Industrial and Commercial Finance Corp. to provide post-war funding for small enterprises.
Investments by the Business Growth Fund will be managed by an independent board and chairman, including bank and government representatives. The participating banks will effectively own a stake in each of the companies in which the fund invests, with the equity injection aimed at increasing businesses’ chances of receiving a bank loan.
The smallest stake the fund will hold in a company is 10%, invested for an average of five years. The fund could start making investments by early next year and is expected to be up and running by April at the latest.
The British Bankers’ Association (BBA) and the U.K. banking industry proposed the fund last month as one of 17 initiatives. Among the taskforce’s other pledges were to support a network of free business mentors, publish lending principles, establish a transparent appeals process for loan applicants who are turned down and form a business finance round table that will bring together banks and business organisations.
“The proposals are substantial, wide-ranging and represent a real opportunity for the banks to provide finance, help and support both directly and through partnership with business organisations up and down the country,” says Angela Knight, chief executive of the BBA.
Since before the financial crisis, there has been a hole in funding provisions for smaller companies with only a fragmented array of initiatives. As the economy comes out of the downturn, it’s crucial that these companies get more support.”
Politicians and business leaders broadly welcomed the measures, although sources close to the Treasury warn that the fund—which is still subject to formal approval from the banks’ boards and the Financial Services Authority—is merely “down payment by the banks,” meaning more needs to be done to increase bank lending.
The move has been seen by some as a bid by the much-maligned banking industry—which has been criticized for letting viable business go to the wall amid the credit crunch—to make peace with small businesses, the government and society at large, while heading off government-imposed lending targets.
British politicians have consistently accused the country’s top banks of not doing enough to lend to SMEs. And while have vehemently maintained that credit is available, an independent report conducted by the pH Group on behalf of the BBA shows that business lending has plummeted during the financial crisis. The report found that lending has fallen more sharply than it did in recessions in the early 1980s or 1990s. Since August 2008, net borrowing by U.K. businesses has contracted by around 6%, but still stands at over £500 billion, with £8 billion of new loans made each month. Lending to small businesses has shrunk by 3.5 percent.
The analysis of bank borrowing by businesses in the £1 million to £100 million turnover bracket also reveals a widening lending gap. While there was oversupply of credit to poorly rated companies in 2006 and 2007 (the years of easy credit) that gap reversed by 2008 and ballooned in 2009, when almost 2,000 businesses faced a lack of credit. Moreover, in all of the sample years (2006 to 2009) there was a chronic undersupply of credit to well-rated businesses, with a peak of more than 5,000 companies suffering from a lack of funding last year, according to the pH Group report.
The Rowlands Growth Capital Review reported in November 2009 that there was a “permanent gap” for businesses looking to raise between £2 million and £10 million, with neither banks nor venture capitalists likely to fill the void. The Business Growth Fund is expected to target that gap. “This is the size of company that finds it difficult to raise finance,” says Andrew Hore of financial data website Digital Look. “VCTs [venture capital trusts] generally invest less than £2 million in a company, depending on the age of the VCT.”
However, Allner of Octopus Investments says the Business Growth Fund still leaves a gap at the very bottom of the spectrum—among the U.K.’s fastest growing smaller companies that are looking for equity investment in the £1 million to £5 million range but are yet to turn over £10 million a year. Most members of the Federation of Small Businesses, for example, will be too small to take advantage of the new fund.
“Businesses at this end of the spectrum are an essential part of the U.K.’s future economy,” says Allner. “They have a key part to play in recovery, growth and employment, as they can create many of the 2 million private sector jobs that the government has spoken of, as well as generating tax revenues and export income.”