Money (4)

The advent of alternative finance has made the world of finance a more transparent, easier to understand topic for many small businesses, but there’s still the age old problem of complex fees that can be a headache for many firms. And it may be holding many back from benefiting from the new age of finance.

Today’s true alternative to finance

Alternative finance came to life after the financial downturn and really took effect in the UK from 2012. It’s growing year on year with thousands of businesses benefiting from platforms that offer small and medium-sized enterprise (SME) loans, equity platforms and invoice finance. However, for businesses seeking finance – particularly at the smaller end of the SME sector – it has become very daunting.

The choice is vast in the alternative finance field, and as it has developed, so have the products on offer. All of which are valuable for businesses, but are useful for different stages within a business, or for different business uses.

And then you get in to the fee complexity. Each platform does something different but as many develop their own package, there is an unnerving feeling that products and therefore fee structures are taking on more of a feeling of a bank. And we think that’s a bad thing for SMEs.

Alternative finance take-up by SMEs

The past five years has seen more than 100 alternative finance platforms sprout from nowhere. What’s common between them is that they are determined to make financial services a better, more transparent place for investors and businesses, with technology at our core.

Fintech has taken the world by storm. And alternative finance platforms remain at the eye of it. In 2015, the alternative finance market grew to £3.2 billion. Taking an increasing share of small business lending and start-up investment in the process. Its growth also means that alternative finance business lending is now 12 per cent of the whole lending market for small businesses in the UK.

Long-term finance such as equity and peer-to-peer lending takes the lion’s share of the interest from small businesses but invoice finance is having traction too.

What was interesting to see in the latest alternative finance report from Nesta was the slowing in growth this year. Don’t get me wrong, the 84 per cent growth experienced by the sector in 2015 is still staggering, but it’s nowhere near what it was in the previous year. People point to numerous possibilities such as platforms having to take a breath before growing and facilitating further SME loans. But we think it’s something else. We think that despite the transparency and becoming a true alternative to banking finance, fee structures can be too complex.

Complex fee structures are creeping in

Take invoice finance as a good example. It’s dominated by a handful of players in the market but the growth in this part of alternative finance was the slowest of all the alternative finance types in 2015. And furthermore, just 5,000 businesses had used invoice finance.

This is strange to us as invoice finance is, of all the financial solutions out there – more appropriate for the largest portion of SMEs in the UK. Yet of course, we know that invoice factoring had its terrible connotations and reputation many years ago, but as with this new alternative finance movement, the types of businesses using invoice finance and the reasons for doing so, couldn’t be further from factoring back in 1985.

Every supplier issues invoices while the customer – usually larger firms – have their own terms which can be 60, 90 or even 120 day payment terms. Waiting for three months for money after completing a job, or supplying goods is debilitating for SMEs. That money can be better spent on more stock, new staff or additional growth tactics. And of course, every business has an element of seasonality these days so invoice finance can help all of these scenarios.

The other concern we have of the alternative finance sector is its increasing complexity as it – I hate to say – gets closer to the banking world. Fee structures have to be simple. Management costs, discount matrices and other fangled terms associated with the costs of paying for finance are old-hat and shouldn’t have a place in the alternative finance world. By not being straightforward and simple, fee structures add a layer of complexity and a belief by SMEs that they’re ‘being ripped off’ in some way. That couldn’t be further from the truth but as a platform manager, the sector has to keep things simple otherwise those seriously looking at it as a viable option to seek funding, won’t understand it or simply walk away because they haven’t the time to do the sums.

As an alternative finance platform for growth SMEs, we are practicing what I preach. We just hope others follow suit.

Funding for now

British SMEs are owed more than £500bn in outstanding invoices. That money could be put to work but it must be simple and completely transparent.

By Ruth Chamberlain, UK country manager at Investly