Dear Chancellor,

Over these difficult last few days, we watched with the greatest of anticipation as you stood shoulder-to-shoulder with the Prime Minister and the Chief Scientific Adviser to announce additional measures to defend the UK economy from the effects of the Coronavirus.

We applaud the clear determination of this Government to “Do Whatever It Takes” in fighting the damage this crisis is inflicting on people’s health and our country’s businesses, jobs and prosperity.

However, we were left entirely underwhelmed by the proposals as the impressively big number of £330bn was only to be lent to British Companies and only through mechanisms which we believe are doomed to be largely ineffective. As active practitioners in the SME funding space, we write to offer a constructive view of the pitfalls we foresee with the Government’s approach and to suggest viable alternatives.

Small cash grants to high street businesses in the leisure, hospitality and retail space are an excellent measure, but a very narrow approach considering the damage this economic shut down will cause across the wider SME community, and small in quantum meaning that these grants will help very, very few businesses in any meaningful way.

Of course, introducing the Coronavirus Business Interruption Loan Scheme (CBILS) and then increasing the maximum amount available from £1.2m to £5.0m are both steps in the right direction, but the use of the Enterprise Finance Guarantee (EFG) blueprint for delivery is a strategic error based on our experience of how the EFG and other such schemes operate in practice.

Even in a stable environment EFG loans are not easy to put in place despite the headline grabbing 75% Government guarantee. An improved guarantee offered by the CBILS of 80% of the loan amount, still leaves 20% “at risk” from the lenders’ standpoint. Worse still, we have latterly found out that lenders will have annual claim limits meaning that much less than 80% of their book will actually be guaranteed at any one time.

This residual exposure means lenders will likely require security and continue to subject applicants to a credit process with qualification requirements, documentation, supporting materials, cashflows projections and other particulars – all to be provided by businesses in who find themselves in a state of emergency, unsure how to plan and make projections in this environment and likely experiencing personnel absences and resource depletion. The sheer paperwork involved at the lending banks and surge of requests at the same time is likely to create substantial bottlenecks, meaning that this funding, if it appears at all, might take too long for the businesses to survive without laying off key staff.

Given a significantly more uncertain economic environment we anticipate lenders will largely dismiss the 5% improvement in the guarantee applying the same rigour to protect their “at risk” proportion as they would when issuing and EFG. These measures are really not going to provide the comfort the lender needs in an economic crisis to provide material levels of liquidity to SMEs.

Furthermore, in today’s economy, a modern SME is light on tangible assets and even lighter on assets unencumbered by some kind of borrowing arrangements. With this general lack of “available asset cover”, it is our assumption based on many years of experience that lenders will protect their “at risk” portion of the CBILS by asking for personal guarantees from the business owners. This is counterproductive and demotivating since it asks the very entrepreneurs, who have just seen their business evaporate before their eyes in a matter of days, and who we all need to lead these businesses in delivering the eventual economic recovery, to accept large amounts of personal risk, putting them and their families squarely in the firing line during one of the most uncertain times in living memory. Many would rather throw in the towel than ‘dig themselves deeper in the hole’.

Ask yourself if a business owner on the brink would rather cut his or her losses when facing an overwhelming and unprecedented business downturn with no end in sight or would they choose to put more of their own and their family’s viability on the line by taking on more debt with personal guarantees, covenant constraints, interest burden and ultimate principal to be returned?

If the scheme was 100% Government guaranteed, with streamlined qualification and funding processes, this would be more effective. However, even with 100% guaranteed scheme, many critical problems remain.  A business in any degree of jeopardy is still having to take on more debt. If like any typical businesses, the applicant has prior borrowings, these will likely present problems.

One such problem is understanding which loans ranks first for repayment priority, new CBILS or prior loans? Another might be how to help businesses with prior loan documents containing so called negative pledges preventing additional borrowing. Yet another is that the additional burden of interest payments will still be higher for businesses taking out CBILS loans. The 6-month interest holiday, whilst welcome, is ultimately futile in reducing cashflow fragility.

For most businesses, the loses that are to be sustained in the coming months will not be recovered in the future. In offering a loan you are asking that businesses ultimately suffer these losses, thus providing no relief in this crisis. You are not encouraging businesses to maintain overheads, keep employees or retain operational capability to return quickly to the levels of productivity this country needs once this crisis has passed.

A loan scheme, whilst providing liquidity, is passing the burden of this crisis on to the SME and its owners. Worse still, the scheme is deepening these losses by charging interest on the loans. Faced with the CBILS as the only option to support a business in this crisis the owner and its management remain incentivised to cut as many costs as is possible to restrict these losses which will damage our economy and our country.

We want to be constructive. Criticism alone is never helpful – we are in unchartered territory and the Government is correct in its overarching ambition to deliver “Whatever It Takes”. We would like to put forward practical solutions for the Government’s consideration of what it would really take to stop the economic bleed.

One such proposal is for the CBILS to be fully guaranteed or, better, given as Grant to businesses sized in each case based on their individual fixed cost load. Such a Grant would be widely taken up and effective in stopping the damage.  They would protect businesses, salaries, jobs and normalise many other fixed costs, thereby preventing supply chain contagion.

The outlay would be in the realm of the same numbers being brandished at the press conference today. Options for how to ultimately finance such Grants are several.  One is a scheme like student loan repayments, where a business recovering beyond a certain threshold could be taxed at a fixed additional portion to their post-tax income. Asset-liability matchers like pension funds and insurers would surely take such assets off Government’s hands, provided the crisis is averted.

Alternatively, a broader corporation tax increase could be used to fund the Grants, whereby it would ultimately be the surviving businesses who benefited most from the success of the rescue scheme that would sustain higher taxation when profits are made.  The more of the Large and SME corporate tax base could be saved from perishing permanently, the broader the future number of businesses repaying the money back, hence speeding up the payback and the general recovery. Raising general UK Corporation Tax by several percentage points would still leave the UK very competitive within the G20 context.

We hope that our approach can be seen as balanced, in the context of a wartime-like crisis, where policy mistakes carry an unthinkable cost.  We stand ready to work with the Government and its advisers, to the extent our practical knowledge of the daily funding challenges for SMEs is of use.

Yours sincerely,

Alexei Garan
Head of Business Funding, Shaw & Co

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