Green shoots face credit frost: Lenders' fears threaten recovery for small firms, Alison Eadie reports

DEREK and Helen Simmons asked their bank for a loan to buy a pounds 44,000 piece of equipment for their land-surveying company, Simmons Survey Partnership in Somerset. The photogrammetric workstation was going at half price and would significantly expand the scope of the business. They were refused.

Peter Lenel, of Sprayon Agricultural Products near Chester, asked his bank for an increase in his overdraft facility to pounds 290,000 from pounds 250,000 because the business was expanding. He too was refused. To make matters worse, the overdraft was actually cut to pounds 200,000.

Both businesses have had hard times. Simmons Survey made losses in 1991 and 1992 but returned to a small profit in the year that ended last January. Sprayon made a small loss last year due to bad weather and moving to larger premises. But both feel confident about the future and have solid evidence of improvement.

The dangers of recovery are now beginning to hit small businesses that survived the recession. Businesses need additional working capital to expand sales and invest to take advantage of the upturn in the economy, but their optimism is not always shared by banks nursing burnt fingers from previous lending. Balance sheets show the ravages of the past three years, yet bank lending decisions are largely based upon historic figures.

Conventional wisdom warns that more companies go bust on the way out of recession than on the way in as working capital to fund an upsurge in sales runs out. Howard Davies, director-general of the Confederation of British Industry, warned this month that clearing banks that overlent to small businesses in the 1980s were in danger of making as big a mistake by overtightening their lending rules.

Small business lobbies fear a liquidity crisis. Earlier this year, a report from the University of Nottingham on behalf of the Forum of Private Business pointed out that bank lending was still primarily based on asset backing while small businesses' ability to offer security against loans had been seriously impaired by recession.

Stan Mendham, chief executive of the Forum, says there is no desire to return to the 1980s, when banks threw money around. What small firms want is participative risk assessment involving an exchange of information between bank and business and a procedure that builds a true relationship.

Building a relationship was not easy for the Simmons and Mr Lenel. In both cases the decision not to grant finance was made by a regional office, not the local bank manager who knew the individuals and businesses well. 'It was faceless people I cannot have a go at,' Mr Lenel said.

Mrs Simmons believes her bank, Royal Bank of Scotland, used the wrong financial criteria in assessing their business for a loan. Her company's overdraft was 6.5 times covered by collateral in the form of property, the sales ledger and other business assets. But RBS based its decision on past turnover and cash-flow projections. Mrs Simmons says the cash- flow projections were guesswork and she regrets being insufficiently optimistic. 'The bank was interested in historic figures, but not in the sales ledger,' she complains.

The Simmons were mollified by a letter from RBS head office that assured them they were valued customers and, although the bank could not provide what was wanted this time, it hoped to do so next time.

Alan Hughes, chairman of the Association of British Factors and Discounters (ABFD), whose members advance cash against sales invoices, believes the banks are suffering from a 'behavioural credit crunch'. 'They can lend, but they daren't lend.' Mr Hughes is also managing director of Griffin Factors, where a 30 per cent rise in the customer base in the first quarter is seen as evidence of bank caution. 'You can read into it that banks are not lending, or new customers would not be coming at such a rate,' Mr Hughes says.

First-quarter figures from the factoring industry support the view that recovery is underway. The ABFD saw a 21 per cent jump in turnover, the biggest year-on-year increase for six years. Sales by customers of members - 9,000 small and medium-sized companies - rose 24 per cent to pounds 4.6bn. Cash advanced to customers rose 15 per cent to pounds 1.4bn, in sharp contrast to the contraction in the supply of bank finance to smaller firms, according to the association.

Recovery from the banks' viewpoint is patchy. Jane Bradford, head of small business services at National Westminster Bank, said most small businesses were still suffering from recession. However, the bank's quarterly start-up index showed a rise in the first quarter for the first time since the third quarter of 1991.

She said NatWest had money available for viable projects and denied any reluctance to lend via the Government's loan guarantee scheme - a subject of several complaints to the Forum of Private Business. If the proposal was viable, but lacked security, then it would be considered, she said.

Fears that bank caution will lead to a liquidity crisis and put the brakes on recovery may not be realised. Mr Hughes is optimistic that this time the company failure toll will not rise as the economy picks up. He argues that the longer and deeper recession has made survivors that much tougher. At the same time, real interest rates are lower, the upturn looks as though it is going to be more gradual and small businesses are more financially acute, viewing debt and overdrafts with greater caution.

The tales of the Simmons and Mr Lenel have qualified happy endings. The Simmons bought their equipment, raising pounds 35,000 from a finance house (not a high street bank) and the rest from RBS through an increased overdraft. Mr Lenel raised the pounds 90,000 he needed through the loan guarantee scheme, which his bank, NatWest, was happy to provide. But there was a high price. The Simmons had to give personal guarantees, list all their personal assets and take out 'keyman' insurance at a cost of pounds 1,300 to secure the loan. Mr Lenel had to pay a pounds 500 arrangment fee and a 2.5 per cent annual premium.

For the Simmons, Mr Lenel and thousands of other small businesses, the next few months of economic recovery will prove critical.

(Photograph omitted)