28/02/2014

By Phil Mitchell, Partner at [nurl=www.harbourkey.com ]Harbour Key[/nur].

Despite slightly more positive news about the economy, bank lending to small and medium sized business is still in decline. Figures from the Bank of England published in January showed that net lending to businesses fell by £4.3bn between September and November 2013.

As a result, business owners have had to look at more innovative ways to fund growth. Some options may only be appropriate for relatively new businesses, whereas others will be suitable for those which are more mature. Before looking for third party funding you should first be clear what it is required for e.g. more staff, premises, machinery, etc., how much this will cost and how it will improve your profits and cash flow.

Is self-funding an option?
The first step is to consider whether external finance is required at all. For example, an established business may be able to fund itself by making improvements to cash flow through a review of prices, costs, sales, stock levels, debtors etc.

The next step is to consider the two broad categories of funding available: borrowing and capital investment. Borrowing means the business will have to service the debt and the owner may have to provide personal guarantees, whereas capital investment involves giving up some part of ownership to the investor.

Sources of borrowing
Looking beyond normal business loans and overdrafts, most of the main banks offer the Enterprise Finance Guarantee (EFG) loan. This is a government backed scheme to facilitate lending to viable businesses turned down for a normal commercial loan due to a lack of security or a proven trading record. Although welcome, in our experience businesses have had difficulties in getting banks to agree to EFG loans and cases of miss-selling are now coming to light, where an overdraft facility may have been a better option.

Other sources of borrowing include:
 Peer to peer lending, where the company ‘advertises’ its business and loan proposition on a web-based platform to potential lenders, who indicate their interest and the amount they are prepared to lend. Due to low returns for savers, there has been an 80% growth in funds from investors seeking a better return.
 Leasing assets/hire purchase, which provides an alternative to buying machinery or equipment. Some companies offer beneficial arrangements through organisations such as the Federation of Small Businesses, while others offer favourable terms e.g. BT gives start-ups favourable terms for a three year lease on telecoms/computer equipment.
 Debt factoring/invoicing discounting – although commercially different, both factoring and discounting are based on the principle of selling a business’s invoices to a third party. The third party is charged with processing the invoices, and the business can receive loans based on the expected invoice payments.
 Pensions – although company pension schemes are not generally permitted to make loans to their sponsoring employer, one exception is the Small Self-Administered Scheme (SSAS), provided certain conditions are met. However, borrowing from your pension means your fund is at risk.

Lenders of last resort can be considered for small loans where the business has been refused by a bank. These are typically charities or regional/local council initiatives and can lend up to a limit of around £20,000. Interest is charged on the unsecured loan, generally slightly higher than a high street lender.

Short-term lenders such as Wonga offer businesses short-term emergency loans to solve cash flow problems, but it is important to consider the interest rates and affordability.

For start-ups, personal loans of up to £25,000 can be obtained from the Government’s start-up loan initiative. The average granted is around £6,000.

Capital investment options
Capital investment requires the business owner to give up part of their ownership and it is important to understand that this may result in third parties being involved in running the business. This should be viewed as positive where the investor brings useful skills, experience and contacts in addition to cash.

The main sources of capital investment are:
 Friends and family.
 Web-based crowd source funding, which can either be equity based (shares), or reward based (e.g. a percentage of future returns). Similar to peer to peer lending, it involves pitching the business on a web platform to attract investors.
 Accelerators, which are government or privately backed programmes for young, high growth businesses. They generally provide both funding and support such as mentoring, office space and training.
 Business angels – usually wealthy individuals who have already made their fortune through other business ventures and may provide time and experience as well as money. They may invest on their own or as part of an angel network. Angel funding is typically in the £100,000 to £500,000 range. For larger investments, a venture capital company can be considered.

There are tax advantages for investors in making capital investments to limited companies under the Seed Enterprise Investment Scheme (SEIS) and Enterprise Investment Scheme (EIS). Each scheme has its own qualifying conditions, including the amount that can be invested and the type of trade the company conducts.

Grants
Grants normally relate to specific industry sectors or businesses based in a particular region earmarked for development or regeneration. For example, the government-funded Technology Strategy Board provides grants to bring new products and services to market. Alternatively, your local council may offer small grants for improving your shop front or assisting with training.

Raising finance from an external source can provide a crucial launch pad when growing a business. When looking for funding, you need to consider all your options, how to apply to maximise your chances of success, and whether you meet all the funding criteria.

Phil is a Chartered Tax Advisor, who originally trained and qualified as a solicitor, practising commercial law for five years. Phil is a partner in Harbour Key LLP which specialises in working with entrepreneurs and privately owned companies. As a business owner and entrepreneur, Phil understands the challenges of his clients and in his own right has invested in a number of companies via EIS.

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