Only if you’ve been living with an uncontacted Amazonian tribe could you be unaware that something called a credit crunch is going on.
And yet a year ago few people had heard of such a thing, while the era of steady growth and easy credit had lasted so long we’d come to take it for granted.
Our complacency has been shattered now, that’s for sure.
Barely a day passes without fresh reports on the havoc wrought by the credit crisis. As the lending market has atrophied house prices – that supreme barometer of middle-class self-worth – and retail sales have tumbled, resulting in the credit squeeze encroaching well beyond the business pages.
The lending market has atrophied house prices and retail sales have tumbled, resulting in the credit squeeze encroaching well beyond the business pages
In comparison small-business finance has received negligible coverage in the mainstream media.
So, is it any harder to raise funds to start, buy or grow a business?
Henry Edjelbaum, a finance broker for ASC Finance for Business, says this isn’t easy to ascertain.
“If you’re buying or starting a business the statistics aren’t as easily available as with residential mortgages, for which you’d go to the land registry. It’s more about anecdotal evidence than pure statistics.”
We’ve spoken to a number of finance brokers – who seek out funding and broker deals on behalf of entrepreneurs and small businesses – and a bank to amass such anecdotal evidence and to try and form a coherent picture.
What exactly is a credit crunch?
A credit crunch occurs when there is a substantial reduction in the supply of credit, causing loans to become more difficult and expensive (ie, entailing bigger deposits and interest rates) to obtain.
Previous credit crunches have tended to be short-term events, like the market blockages that followed the 9/11 terrorist attacks in 2001 and the bursting of the dotcom bubble in 2002.
The current crisis, which is proving more durable, began in the US last summer when low-income households were given mortgages they couldn’t afford to repay. When many began defaulting on these ‘sub-prime’ mortgages the shockwaves were felt around the world as the debts were sold on to various lenders and investors.
With so much bad debt sloshing around the global financial system banks grew nervous and started hoarding their cash. The reduction in credit supply has contributed to and been exacerbated by the accompanying economic slowdown.
How much is this affecting small business?
Sarah Busby, a finance broker for Birchwood Business Finance, is unequivocal about how difficult it has been getting funding for her clients:
“Brokers are having to work two or three times harder to get deals through. I’ve had two or three lenders recently where they’ve put out offers and then tried to backtrack.”
For all the lack of measurables one thing is abundantly clear: the number and variety of providers has dwindled. And one type of lender in particular is vanishing from the market.
End of easy money
“A lot of the specialist lenders – the likes of Commercial First, Base Commercial, Salt Commercial – have pulled out the lending market,” says Busby.
The specialists she refers to include non-status lenders, which grant loans without delving into the borrower’s income or credit history. Although such lenders offered worse ‘loans-to-value’ – the percentage of the business price they finance – and higher interest rates, they at least gave people with chequered income or credit histories the chance to get into business.
“It’s now a lot harder for people who are self-employed and don’t have any proof of accounts,” says Kevin Shaduwa, a broker at Face2Face.
And, he adds, there’s no sign that entrepreneurs are deterred by the austere conditions, so roughly the same number of would-be borrowers are chasing less credit.
“We’ve been having the same enquiries as before,” he insists. “But it’s now more difficult to find a provider for every single case.”
With less credit available lenders are obviously fussier about who they lend to.
“The lenders are cherry-picking those with good security,” says Shaduwa. “Ie, if we lend this person any money and their circumstances go wrong, can the lender get his money back?
“And number two is serviceability: can the applicant service the loan – have they got more money coming in than going out?
“And the third one is credit history. Whereas before there were a number of lenders which would do mild adverse credit – small defaults, misspayment, etc – they are very difficult to get through now without a big deposit.
More information
Sarah Busby insists that, despite the worst lending conditions since the early 1990s, “lenders are still very keen to lend.”
“But they are now laying down the rules as to what they will or won’t look at.
“The underwriting and risk assessment is a lot tighter. They’re looking at incomes more closely to ensure serviceability.”
Henry Edjelbaum, a broker for ASC Finance for Business, agrees that lenders are now “demanding far more information”.
“Six months ago, if you were to buy a guest house, banks were quite happy to ask about the profit for the year. Today they would want the seasonal cash flow and analyse how you manage the low and high season.
“It’s far more detailed.”
Larger deposits
They’re also demanding more in the way of a deposit it would seem, especially from first-time buyers.
“Purely because they are stricter on the serviceability requirements,” explains Busby. “Often people can’t raise those sorts of deposit – they are large amounts to find.
“Once they get on the property market it’s fine. It’s making that first step – proving that you’re capable of paying the debt back.”
Busby says that banks aren’t “lending the same, high loans-to-value that they were a year ago. Before, 75-80% was quite common; now many lenders are only lending 75% of property value as opposed to going-concern value” – the value of the company as an operating venture, meaning it includes the value of intangibles such as goodwill and intellectual property.
It’s doubly difficult for homeowners hoping to leverage the value of their property in the deal.
“You’ve also got properties downvaluing now,” says Busby, “so people don’t have as much equity in their properties as this time last year so they can’t raise as much for a deposit.”
Lennox Simpson-Gray of Simpson Gray Associates thinks banks are reluctant to lend money for leaseholds. “And if they do, it’s very expensive,” he adds.
Busby reckons “you really need freehold security – either buying a freehold business or offering your house as additional security to get the funding you want.”
Simpson-Gray estimates that “banks are looking for a deposit of one third or more.”
Shaduwa notes that “before, someone with a 20% deposit might have found a lender to look at it sympathetically if they perhaps had other security or relative experience, ie, same job to same job.”
Stupid lending
Now, he says, banks are generally more insistent on relevant experience. “If you’ve got an astronaut who wants to open a restaurant,” he says, “we’ve got a problem.”
But is it such a bad thing that an astronaut can’t open a restaurant? Could the credit squeeze save people from themselves?
“What people call the credit squeeze you could also call the end of stupid lending,” says Henry Edjelbaum. “In the Evening Standard there was a story about a secretary who was saved by the credit crunch because she would otherwise have taken on a mortgage and lost her savings.”
“For sensible deals there are sensible providers out there. We can even finance speculative property development still – if it’s the right deal.”
Shaduwa also thinks credit is readily available if you meet certain, reasonable criteria.
“Any bank is going to lend £150k for a £500k property to a guy who’s been doing it 20 years and has a clean credit history. There’ll always be money for those types of people.”
Might the credit crunch at least encourage entrepreneurs to plan more carefully – to take more care over picking an industry and a business, calculating the figures and so on?
Unfortunately, there is evidence that sensible borrowing has been blocked, as Paul Evans of LT Finance can attest. He’s struggling to find finance for one client even though he has adequate security, already runs successful businesses and is only asking to borrow 70% of the bank’s valuation.
