The challenge of generating and maintaining sufficient cash flow to navigate the choppy waters of the past two years has been widely documented. Many SMEs, across a number of sectors, have faced unprecedented business challenges that have hindered their ability to generate revenue.
Recent circumstances have created growth opportunities for some (for instance, those who were able to repurpose and sell into new sectors and/or were able to leverage some aspect of the new normal).
Generally, however, SMEs operating in traditional markets have found it tough and many have relied on support from their lenders to provide the necessary working capital to survive. Different SMEs have had different experiences in relation to accessing capital via the various government-backed schemes. Anecdotally, the majority have been able to obtain the support that they needed, albeit there have inevitably been casualties. Those that have weathered the storm and now find themselves in calmer waters will need to consider financing for the future i.e. financing for growth, rather than survival.
Good cause to be optimistic
Good-quality SMEs have plenty of reasons to be optimistic about their ability to raise capital.
Liquidity is strong and levels of day-to-day business lending are ramping up. Whilst some high street banks remain cautious in relation to new business, many are open to exploring new opportunities and have capital available to lend to robust SMEs with good-quality management.
The legacy and sheer volume of COVID-related lending (some good/some bad) into the SME sector will take time to play out. It is understandable that there will be some caution about deploying more capital unless there is a robust business case for it.
Alternative sources of funding
Recent emphasis on political drivers dictating lending policy will shift towards a more traditional focus on creditworthiness. SME owners should be taking steps now to ensure that their businesses are in the best possible shape to support a case for growth finance. Anecdotally, where there is a robust business case, the high street banks seem to be supporting that.
What is encouraging for SMEs that are, perhaps, fundamentally good businesses but retain some challenges (COVID/Brexit legacy related or otherwise), is that the funding market is not solely reliant on high street banks.
Whilst high street banks will likely be the strongest funding partner for many SMEs (particularly those with multi-faceted financing needs such as working capital, invoice discounting, asset based funding and/or trade finance), those whose funding needs are slightly simpler can look to multiple sources to meet that requirement.
The so-called challenger banks are no longer ‘challengers’, they are established participants in the SME market and some have a more flexible credit policy that the high street banks. Likewise, specialist funders providing invoice discounting and/or asset finance may be a better option for some businesses looking for a simple cash-flow solution or looking to invest in new equipment to take the business forward and grow.
Moving into the lower mid-market
As you consider SME growth, you also have to consider the status quo in the lower mid-market. Many SMEs will have aspirations of moving into that space if their plans for growth play out. Equally, some owners of SMEs may be considering succession planning.
Whilst traditional continuity exits such as management buyouts (MBOs) remain strong, alongside newer structures such as Employee Ownership Trusts (EOTs), many owners of SMEs will be considering external sale and the lower end of the mid-market may be where the best suitors lie.
With that in mind, it is worth just touching on some of the trends that are likely to be relevant in that space.
Lower mid-market trends
Financing trends typically start with large corporates and then trickle down. Positions that were historically only common considerations in mid-market deals have started popping up in lower mid-market scenarios and, equally, may soon trickle into the fringes of the SME space.
Lower mid-market M&A activity has been strong, particularly in sectors that have performed well over the past two years (healthcare, e-commerce/tech and certain sub-sectors of manufacturing being examples). Liquidity is there for transactions in these strong performing sectors and good quality borrowers are increasingly able to push for the kind of flexibility that was previously reserved for mid-market corporates and sponsors.
SME owners in these sectors considering succession planning may find that they have a desirable asset to lower mid-market corporates looking to grow themselves. Equally, as mentioned above, strong SMEs in these sectors may find that they are able to grow into the lower mid-market space.
In the latter scenario, it is essential that SMEs start preparing for life as a lower mid-market borrower. Whilst we touched on some positives above, there will be an increased emphasis on other aspects (such as ESG and regulatory change), that are likely to be relevant in the not-too-distant future, for growing businesses on that path.
Whilst there are clearly legacy challenges for SMEs and the lower mid-market as the true cost of the pandemic and the consequences of reducing government backed support/protections play out, there is genuinely reason to be optimistic about trying to raise capital.
Lenders are keen to lend to good-quality businesses and the sources of funding are probably more varied than ever before. As always, the importance of strong management, robust planning and good quality professional advice remains key.
Howes Percival’s Banking & Finance team has the in-depth knowledge and experience to advise you on structuring and executing your banking and finance transactions.
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For more information, contact Haydon Simmonds on 0116 3230504 or at haydon.simmonds@howespercival.com
