Hopes are high that the new Strategic Banking Corporation of Ireland (SBCI) will boost lending to credit starved SMEs. Cynics say that this will be the only bone that we will ever be thrown in recognition of our role in saving the European banking system; we wanted direct equity recapitalisation of our banks but this is all that we got - another loan which, like all the others, has to be paid back.
Nevertheless, the new funds should be welcomed. As important as the cash is the recognition that Irish banks don’t have much expertise in non-property business lending. This, apparently, has come as a surprise to officials from KfW, the German bank that is supplying some of the funds and, we hope, some of the necessary lending expertise.
Are low levels of lending to SMEs a reflection of limited demand for credit rather than simply lack of supply? The SBCI is not the first attempt at getting the SME credit channel unblocked. Previous schemes have often experienced low take-up. Why is supply and demand for smaller company borrowing at a low ebb? The weak economy is an obvious culprit. But once we strip out property borrowing, the demand for credit from Irish businesses has, for one reason or another, rarely been as strong as we might have thought. Data on this is scarce, but points in this direction. Hence, if we are to make a serious difference, we need to think about boosting both credit demand and supply.
Company lending is a risky business with characteristics common to other forms of credit but also with its own unique challenges. It is not surprising that banks are not terribly good at this: lending to a company, big or small, requires skills similar to those needed for investing in shares. Proper investing - and lending - always involves deep domain knowledge of the business concerned; extensive financial modelling (often bordering on forensic accounting); close acquaintance with the managers of the business; awareness of the activities of competitors, suppliers and customers; strategic analysis of the broader operating environment. And these questions become more difficult to answer each year: few companies are immune to threats from old-fashioned price competition (just ask Tesco) or from being obliterated by technological change (just ask any phone company apart from Apple). The brutal truth is that the majority of start-ups fail.
Why we expect banks to have any expertise - or interest - in any of this is a bit of a mystery; most investors are not up to it either. Getting a loan is one thing but anybody who has ever tried to use Bank of Ireland’s stone-age Internet banking for business knows that at least one pillar bank doesn’t take business banking seriously. Giving the banks cheap funding might just let them offer even lower saving rates - that’s what happened with ‘funding for lending’, a similar UK scheme.
The investing world is adapting: small, specialised boutiques do the hard graft. Other, larger, firms, have opted for scale: they typically offer low cost ‘passive’ or index-tracking products. Lending to smaller companies is also becoming a very specialised business but, in this part of the world, there are few boutique specialised lenders or investors.
The lack of venture capital, private equity and other, newer, forms of investing and lending is well known. A source of optimism is to be found in the various crowd funding initiatives that are growing by the day. These hold out real promise.
Sources of funding for social media companies are well known: we are familiar with the role played by specialised firms in the growth of Twitter, LinkedIn, WhatsApp and Facebook. But there are so many other stories, so many other exciting developments that have yet to make the headlines. Until we can realistically imagine replicating the experience of businesses like Edmodo, inevitably a US company, we are going to struggle. Edmodo was founded by a couple of school administrators from Chicago around six years ago and has so far managed to raise nearly $90m in VC-type funding, mostly from firms as far removed from traditional banking - and investing - as can be imagined.
Will the SBCI prompt lending to entrepreneurial civil servants? I suspect that banks are not the answer to our SME financing problem - they probably never were. And given likely disintermediation trends they are becoming less relevant by the day.
