Why Alternative Lenders Mustn’t Be Frozen Out During the Covid-19 Crisis

There are around 5.9 million small and medium sized enterprises (SMEs, or any business with fewer than 250 employees) in the UK according to the Department for Business, Innovation & Skills. Seen to be the backbone of any healthy economy, they drive growth, create a group of skilled and semi-skilled workers, generate competition and encourage innovation across a range of industries, as well as supporting future industrial and business expansion in the country. They keep the business sector energised, generating a healthy flow of new skills and ideas.

Since 2008, alternative lenders have risen in prominence, working alongside larger more traditional clearing banks, offering a funnel of vital liquidity through tailored and flexible lending solutions to SMEs. Today there are significant amounts of private capital (often referred to as dry powder) waiting to be invested in resilient SMEs and the market share of clearing banks has fallen significantly in a far more diversified lending sector. In the last 12 years, banks have also become much better capitalised than during the Global Financial Crisis. Previously businesses could service debt from remaining cash flows with little or no capital for investment which resulted in a zombie status for many UK SME borrowers. Today, the environment is very different although this trend has not disappeared. In fact, as a result of Covid-19, it is estimated the trend could develop further given the potential that businesses may build up £100 billion of debt by next March.

The UK Government has been quick to back sectors post Covid-19 that are resilient to recessions and market volatility, providing financial security and protection through initiatives such as the bounce-back loans scheme. This is where alternative lenders that understand the very basic needs of specialist SMEs, often in their lending infancy and operating in sectors such as infrastructure, technology and renewables, can provide the additional support and natural lending progression alongside the larger clearing banks. Alternative lenders understand the characteristics of specialist SMEs and with the flexibility they offer, empower their staff to make judgement calls on capital requirements.

The economy though is facing a double dip recession that could last well into late 2021 and it will need these resilient sectors to be protected with their existence guaranteed. Many clearing banks are working tirelessly to process emergency loan applications but with pressures piling up – for example from within their mortgage lending divisions – a lot of SMEs will become unsustainable, with some estimates predicting 780,000¹ insolvent SMEs. It was concerning therefore to see that alternative lenders are potentially unlikely to receive much financing from the Bank of England to deliver emergency government loans. It is crucial that clearing banks pass on finance from the Bank of England to alternative lenders and find a way to make it work on commercial terms. SMEs must have a tripartite level of support from Government, alternative and traditional lenders working together in these difficult times.

As traditional banks deal with the impact of Covid-19 around their balance sheets, it is likely that they will have to pause financing discussions around succession and growth financing as well as recapitalisations, in order to redirect resources to addressing an enormous influx of CBILS applications from capital-starved SMEs. Those resilient SMEs who have weathered the pandemic best in their sector will be able to benefit from the potential acquisition opportunities to increase their market share and will need capital to carry this out. Alternative lenders have the know-how and flexibility to help process this type of financing quickly and effectively. Without legacy loan books and unencumbered by CBILS applications coupled with high levels of dry powder, alternative lenders working together with clearing banks can help to execute rapid credit decisions on flexible terms.

The UK business sector as a whole needs both more financial support for the alternative lending sector which is working together with traditional banks but also more sustainable initiatives to support SMEs in more resilient sectors from the Bank of England as we come to terms with an increasingly capital hungry economy – an issue that necessitates urgent attention.