At the moment, the first place that businesses seem to go to for finance is to a bank, to borrow money. If my idea of outlawing commercial lending is followed through, what will businesses do instead?
There are lots of possible answers to this question. And some of the answers depend on what the money is for.
Let’s set out a few possibilities:
|Money for?||Instead of borrowing|
|Finance for a piece of equipment (eg van)||Hire it, rather than buy it|
|Finance for a property||Rent rather than buy
|Working capital (to buy stock or cover
production costs before sales money comes in)
|Debt factoring (ie sell your sales debtors)
|Money to develop a new product||Outside investors|
There are already a lot of ways of sorting out money which do not need to involve borrowing. Please let me know of any other situations where you think businesses might need money and alternatives to borrowing. And are there any situations where there is no real alternative?
I have suggested that “outside investors” might provide the funding – particularly where there is no other obvious source available. Who are these people and where do you find them?
- The answer is that we already have Dragons Den for those who not only want to find outside investors, but also want a few minutes of TV fame.
- There are also other “dragons” around or perhaps it would be better to use their preferred name of business angels.
- I am also hopeful that banks will see a new role available to them. Or rather new investment businesses, separate from the trustee banks I envisage, will be set up using the expertise of bankers to invest their own money into other businesses.
- And investment bankers may continue to act as brokers for introducing businesses to stock markets to raise money from them
A big difference between “outside investors” and “bank lending” as I see it is that investors will need to look at the business and decide whether it is worth backing whereas bankers have often looked at the assets of the person running the business and secured the debts against the assets. In other words bankers are often not looking at businesses for viability but are looking at assets for saleablility. By changing the rules we may end up with more business-conscious investors – or we may end up with a lot of business failures costing investors money.
Will this have a significant effect on the economy?
One concern which I have is that businesses are often geared up with debt finance. What this means is that a company can have significant assets (buildings, equipment, intellectual knowledge) but also significant amounts of debt. If this business ceases, it will not make much difference to the investors as the net value of the business (after debts) is low – or possibly even negative if debts exceed assets. If the business succeeds, the investors make a killing. If I were to put some numbers to this the effect of gearing becomes clearer:
If this business collapses, the investors lose £100k
If the assets double in value, the company then looks like:
And the investors have made a £1.1m return on a £100k investment – increasing the value of their investment by 1,000 times.
By removing the possibility of commercial debt, some businesses may not get off the ground because the risks are much higher and the rewards are much lower. In this example a risk of losing £1.1m or doubling your money.
Is my concern justified or, taking the economy as a whole, will we end up with just as much investment. Or is my concern unjustified and will we actually be better off because speculators will not be able to play with bank money, and we will instead have investors who look at businesses not for a quick killing but for its lifetime potential?