Stuart Yuill is Executive Director for DSL Business Finance, a subsidiary of CEIS Group offering a range of loan products to SMEs and social enterprises. Stuart has been on the Board of DSL since early 2011 and Executive Director since January 2016. He brings 30+ years’ experience at all levels of mainstream banking.
As we continue our month-long focus on community wealth building, this week we turn our attention to making financial power work for local places. But what does this mean? In our recent video with our CEO Martin Avila, he explains what Community Wealth Building is and the five pillars of it. You can watch that video here.
But put simply, it means that community wealth building should increase the flow of investment within local economies by harnessing the wealth that exists locally.
According to Business in Scotland, as of March 2021 there were an estimated 344,500 businesses operating in Scotland, providing an estimated 2.12 million jobs. Micro businesses – that is, those that employ 9 people or less – accounted for 93.36% of all private sector organisations. Given the size of these businesses, it is safe to say that many of these businesses play a key role in local communities up and down the country.
That these businesses are not only able to sustain themselves but are able to grow is vital to local economies. One key challenge that many of these businesses face, and one that community wealth building seeks to resolve by harnessing and recirculating the wealth that exists within local economies, is access to funding.
However, recent studies have shown that there is a wide gap between the funding that is needed by businesses and the funding that is available. For many small businesses that are looking for funding, mainstream providers such as the big banks are unable to support their applications for loans and financial support.
So how do we address this gap? What can we do to close it so that there is more money available to micro, small and medium enterprises? And how does making more money available to them have an impact on local economies?
How did this finance gap happen?
Over the last 20 years or so years, partly driven by the 2009 financial crash, banks have been innovating and responding to changing consumer behaviours. A consequence of this is that many banks have opted to close local branches, which has led to a shift of staff into relationship management centres and as a result edge and expertise in serving local economies has been centralised and diminished over time.
Allied to this, because the cost to serve SME (Small and Medium Enterprise) funding is significantly higher than that of larger enterprises and the overall risk greater , then in general terms banks have tended not to support smaller businesses as well as they may have in the past.
Changes to lending policies coupled with some very complex algorithms associated with arriving at an applicant’s personal credit score have also combined meaning that it is more difficult for SMEs to be accepted for loans and funding.
What this has led to, is a finance gap, where the funding needed by these businesses is just not available for them.
As a Community Development Financial Institution (CDFI) we adopt a slightly different approach when assessing applications for loan support. We recognise that those wishing to start or grow a business may not have a perfect personal credit history, collateral available that can be used to secure the loan, or a reasonable stake to invest in the project.
One of the challenges for a CDFI is to be able to finance itself at the right price. Major banks are able to access capital for lending at a much lower cost than CDFIs which means that we must borrow it at commercial rates
We then need to put a margin on loans to account for the increased service and support needed by start-ups and early-stage businesses. And that arrives at an answer which is sometimes beyond what is affordable for those sorts of businesses. That is where government intervention comes in and the truth of the matter is that government intervention is crucial to enable organisations like DSL to provide access to finance to those starting and growing business to close this finance gap.
The effect the lending gap is having on local communities and businesses
If funding is not available to local communities and business, then they don’t get off the ground. This is because entrepreneurs do not have the resources to enable them to start their business and they tend to lack two, sometimes three things from a traditional lender’s point of view:
- They tend to lack investment, meaning they don’t have any cash to put into the business. So, you may have someone, such as a young person or someone who is unemployed, that has a great business idea and who knows what they are doing and what their business will look like and develop into, but they don’t have any money to get it off the ground. So that’s where organisations like ours come in because we can provide 100% funding. Whereas traditional lenders, clearing banks etc, won’t do that. It is just not in their risk profile.
- They also tend to lack collateral or security of some sort. At DSL, one of our loan schemes offers what are in essence personal loans for business use, so no collateral is required. We look at what would happen if the business went wrong, so for example is employment likely to be a feasible option if the business fails? How would they pay the loan back if their business is not successful? Our lending policy is clear in that we are not permitted to use someone’s main residence as security for a loan.
- Something that tends to get in the way for a lot of people is their personal credit score. In traditional banks and financial institutions, someone with any defaults or missed payments in the past 5 or 6 years is likely to be ineligible for a loan. Our policy is that we look less at the number on your credit score and more towards the behaviour within that. If there are some issues, we look behind these, find out what the present position is and very often can assist. If, for example, the applicant has honoured a debt arrangement, then that is a good pointer that that they will honour their repayments, and that they don’t just intend to default on their loan as soon as they receive it.
How we help reduce the finance gap
In the last two years, despite the COVID-19 pandemic, we have distributed over £5m of funding through a combination of UK and Scottish Government funds and our own funds as well as some others that are managed on behalf of other more local organisations. These funds have gone to start-up and growing businesses across Scotland, the vast majority of which are SMEs.
Most of the businesses that we provide funds to employ locally, they are not conglomerates with lots of branches. They might open another premise in the next village, but it is still in the same locale and it’s a fitting example of how we are making financial power work for local places whilst also trying to reduce this funding gap.
During the pandemic our funding helped to create 481 new jobs and maintained 264.
How to reduce the gap further
It is highly unlikely that we can eliminate this funding gap, but we can continue to reduce it. Through our own research, we have found that the gap currently stands at £10m per year for microfinance in Scotland; microfinance being loans less than £25,000.
To close this gap two things need to happen: we need to find the funds and we need to market these funds appropriately to ensure that information surrounding it can reach the right people.
Traditionally, for the kind of bespoke microfinance funding that SME’s need, the signposting has not been that great. In an ideal world, there would be a single source that people can access for information on the providers and funds available, as well as details on how to apply for them.
We also need to encourage people to be more entrepreneurial and not just stop when their business has reached a certain level. For example, a business that employs 20 people and turns over £5m a year. What’s to stop them from employing 100 people and turning over £50m a year? How do we encourage business owners to develop their entrepreneurial mindset? Think of the impact this could have on local communities.
But of course, for businesses to do that they need to be able to start in the first place. And that’s where microfinance comes in.
If we can encourage people to start businesses, make more microfinance funds available to them, and signpost people to these funds, we stand a chance of not just closing the finance gap but making financial power work better for local places. This is fundamental to community wealth building.
Got a business that needs funding? Find out how DSL can help today.