While having a quick (social) chat with a City commercial bank manager a few days ago, I mentioned something I’d heard at the (far too oxymoronic) ‘Access to Finance’ breakout session at the recent B.I.S. Advanced Manufacturing conference: that most new bank lending to startups was in the form of factoring rather than (for example) working capital facilities. Is this true?, I asked him.
Absolutely, he said. Moreover, he went on, what had happened post-credit-crunch was that UK commercial lenders’ various departments had looked afresh at the risk implications of commercial failure / collapse in order to analyze their true cost of business lending. What they discovered was that because invoice factoring (which implicitly has a mixed basket of risk factors) offers a lower effective risk exposure to banks than working capital lending (which is almost by definition built around exposure to a single binary succeed/fail event), it came at a lower effective cost to them.
So, the banks’ logical next step was to withdraw just about every UK company’s working capital facility where practical, in many cases (though definitely not all) replacing it with similar-looking invoice factoring arrangements. I don’t know the figures, but can easily imagine that this comprises many billions of pounds‘ worth. Any lending figure produced by banks to the government relating to their activity since 2007/2008 should be read with this in mind – for this has been their #1 tool in restructuring the risk in their commercial lending portfolios.
Why should anyone particularly care about this? Well… I suspect that this transition will prove to be the biggest shift in UK commercial banking practice in many decades – effectively, the UK banks have collectively moved their default lending position from pre-manufacturing all the way downstream to post-sales. But this isn’t just the end of manufacturing finance, it’s also largely the end of bank involvement with anything involving using money prior to sales, most notably intellectual property creation: in short, this new banking worldview is only really compatible with ‘pure service’ startups (and even then only those who just happen to bill clients right from Day One).
On the one hand, angels (who as a group made their own money through financial services) give every impression that they are mainly looking to invest in other sneaky-ass low-cost financial service plays, so you can’t really blame the banks for being on-trend here. Yet on the other, these two key financing groups seem oblivious to the entreaties of government and entrepreneurs alike, that UK plc simply has to invest in pragmatic intellectual property – by which I mean “knowing useful things that other countries’ companies don’t” – if the whole Square Mile is not to turn to that-which-hits-the-fan.
The takeaway from all this is that if you’re an entrepreneur currently looking for working capital, bear in mind that umpteen billion pounds of the stuff has just been squeezed out of the UK economy: the banks have basically decided it’s icky stuff that they don’t particularly want to lend. And if you’re a banker reading this, ask yourself whether UK plc needs your bank’s money to back yet more services – i.e. more hairdressers, sandwich shops, coffee bars, web design houses etc (hint: it doesn’t) – and whether it needs your bank to enter into a productive dialogue about working capital with startups who are trying to change the world beyond these shores (hint: it does). Where’s the middle ground?