Finance for SMEs: A U.K.

Perspective
Author(s): Alan Hughes
Source: Small Business Economics, Vol. 9, No. 2, European SME Financing: An Overview (Apr.,
1997), pp. 151-166
Published by: Springer
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FinanceforSMEs:
A U.K. Perspective AlanHughes

Research(CBR) at theUniversity
ABSTRACT. This paperprovidesan overviewof recenttrends of Cambridge
in thefinancingof smallerbusinesses in the U.K. It refersin the Small Business Research Centre
(formerly
particularto thefindingsof a majorrecentprogrammeof work This includes thenational SME
(SBRC)).
in this area funded by the Economic and Social Research surveys
ofover2,000ArmscarriedoutbytheCambridge
Council, in which the authorparticipated.This programme
team and publishedas The State of British
includedthefirstnationalsurveyto addresstheseissues since
Enterprise:GrowthInnovation
the Bolton Report of 1971, as well as a range of projects and Competitive
coveringthefinanceof ethnicbusinesses and hi-techfirmsas
AdvanceinSmallandMediumSizeFirms(SBRC,
well as the marketforinformalventurecapital. On the basis
1992) and The Changing State of British
of this work and of the results of more recent follow up
Enterprise
surveyorsit is concluded thatthe evidence forgeneralequity (Cosh andHughes,1996)as wellas a
seriesofpaperproducedbythemconcerned
or debt gaps in the U.K. is weak. If anythingSME funding with
smallbusinessfinance(Hughes(1994),Coshand
was too easy in the boom of the late 1980s. It is argued that
consideration could be given to the promotion through
seedcornfundingof SME co-operativeor mutual guarantee
Hughes (1994a), Cosh and Hughes (1994b),
schemes to reduce informationasymmetryin U.K. credit
Moore (1994), Cosh and Hughes(1993), Cosh,
markets. Duncan and Hughes (1996)). The second is a
collection ofpaperscontaining contributionsfrom
each ESRC programme teamconcernedprinci-
1. Introduction pally withfinancialissues (Hughesand Storey
(1994)).
Thepurposeofthispaperis twofold. Firsttodraw The idea thatproblemsin the financingof
out some of the centralfindingsof the ESRC smallerfirmshavesignificantly hindered therole
Small Business Research Programmeon the theyplayin theoverallperformance of theU.K.
financingof Smaller Businesses. Second to economy is deeplyrooted.SuccessiveCommittees
discuss theirimplicationsforpolicy.I do not ofInquiryintoSmallFirms(The 'Bolton'Report
attempt to providea generalsurveyof all recent H.M.S.O. (1971)), and intotheFunctioning of
relevantworkon thisissue. The background of Financial Institutions(The 'Wilson' Report
researchpapersand othermaterialon whichI H.M.S.O. (1979)), identified problemsforsmall
draw,however,does do thisand the interested and medium-sized independent owner-controlled
readercan turnto thelargenumberof working firmsemploying less than200,or500 employees
papersand publications arisingfromtheESRC (SMEs). The WilsonCommittee in itsreporton
Researchprogrammefor a wider contextual SME financing argued, instance,thatSMEs
for
analysis. wererelatively risky.Theycouldtherefore expect
What followsdraws on materialfromtwo to face higherinterestchargesor moresevere
sourcesin particular. The firstconsistsof work security conditionsthanlargerfirms.Theycon-
carriedout at the ESRC Centrefor Business cludednevertheless thatexcessivebankcaution
led to smaller,andespeciallynewer,SMEs being
Final versionaccepted on November 13, 1996 rationed inthemarket forloansandbankfinance.
They also to a
pointed shortage ofstart-upcapital,
ESRC Centrefor Business Research
Economics
and of equity development forfullygeared
capital
DepartmentofApplied
Universityof Cambridge established businesseswishingto expand.These
SidgwickAvenue,Cambridge CBS 9DE reports led over theyearsto theintroduction ofa

Small Business Economics 9: 151-166, 1997.

© 1997 KluwerAcademic Publishers, Printedin theNetherlands.
152
variety of policy measures designed to tackle
'marketfailures'in thesupplyof financeto SMEs,
and particularsub-groupsof them,such as hi-tech
firmswitha specificrequirement forriskcapital.
For instance in the 1980s the Loan Guarantee
Scheme (LGS) was introduced alongside the
Business Expansion Scheme (BES). These were
designedto tacklerespectivelythedebtand equity
sides of the SME financing problem. In the
nineties the Loan Guarantee Scheme has been
augmented and although the BES was wound
down other (very different)schemes such as
SMART and SPUR were introducedto support
investmentin hi-techand innovativebusinesses,
along with other developments such as the
Enterprise InvestmentScheme and VentureCapital
Truststo boost financefor investmentin SMEs.
There was also a substantial increase in the
availability of private venture capital funding,
althoughquestionsmay be raised as to theextent
to which this favoured lower risk management
buyoutsratherthanhigh risk,high-tech,or inno-
vative small business growth(Hughes (1994)).
The apparent resurgence, alongside these
changes,of theSME sectorin the 1980's, and the
identification
of contemporary governmentfiscal
policy,generally, with corporateand personaltax
cuts to encourage an 'enterpriseculture', might
have been expected to reduce the intensityof
claims thattheSME sectorin theU.K. remainsat
a disadvantage.Indeedone recentacademicsurvey
concluded that"small firmsin GreatBritaincur-
rentlyface few difficultiesin raisingfinancefor
theirinnovationand investmentproposals in the
private sector" (HMSO (1991), p. 17.) The
subsequentreportof theHouse of CommonsTrade
and IndustryCommitteeon the Competitiveness
of U.K. Manufacturingindustryalso concluded
that
thereis no evidence of a shortageof fundsavailable for
lendingand investment(HMSO (1994), pp. 61, 28)
This is not,however,the end of the story.The
combined impact of high interestrates and pro-
longed recession in the early 1990's served to
highlightthe extentto which SMEs continueto
relyheavilyon shorttermfinancefrombanks,to
financetheiractivities.It also revealed the way
in which,when timesare hard,the smallestbusi-
nesses, whichproliferatedmostrapidlyduringthe
AlanHughes
1980's, and are most dependent upon banks,
protestvigorouslyabout the apparentlyunsatis-
factorynature of theirrelationshipwith them.
(Binks et al. (1992), Cowling et al. (1991), Bank
of England (1993)). Moreover,a recentstudyby
theAdvisoryCouncil on Science and Technology
of barriersto growthin small firmsechoed the
Wilson and Bolton Report'sconcernsover equity,
especially its absence in small amountsforrisky
projects,and those involvingsignificantinnova-
tive components.In thisconnectionit pointedto
themuchbetterdevelopedinformalventurecapital
marketin the U.S. It also noted a numberof
instances in the case studies it conductedin the
U.K. where financingdifficultieshad led to the
sale of otherwiseviable independent businessesto
largerconcerns,withthe implicationthatwhere
foreignpurchaserswereconcernedan opportunity
to develop an independentinternationally com-
petitiveU.K. concern had been lost. (A.C.O.S.T.
(1990)).
Other developmentsin the 1980's led to the
emergenceof new questions in the debate over
small business finance. One of these was the
growthof ethnic businesses, in particularthose
owned and runby membersof theAsian commu-
nity.Here the debate focused on theirparticular
strengths and weaknessesin raisingfinancein the
face of culturalstereotyping, lack of established
trackrecords,and racial discrimination on theone
hand, and stronginformalfinancialnetworkson
the other(Deakin et al. (1992), Ward (1991). At
thesame timetheunprecedented rateof company
formationin the 1980's was associated with a
debate about the relativelyhigh cost of compli-
ance withcompanyaudit and disclosurerequire-
mentsforsmall firmscomparedwiththeirlarger
counterparts, and thewidespreaduse by theformer
of the dispensation to submit brief 'modified
accounts' grantedunder the Companies Act of
1981. It also led to a debate about whetherthe
benefitsof limitedliabilitywere worththe costs
incurredfor smaller companies in a world in
whichthepursuitof collateralby bankseffectively
underminedit, and in whichthe supposed benefit
of company status in gaining access to capital
could rarelybe takenadvantageof because of the
equity capital marketfailuresnoted above. The
ESRC Small Business Research Programmehas
somethingto say on each of theseissues.
 forSMEs: A U.K. Perspective
Financing 153

2. The comparativefinancialstructure
and andprofitability
gearing, oflargeandsmallU.K.
of largeand smallcompanies
profitability companiesintheU.K. in theperiod
non-financial
1987-89.'Large' companiesare thoserankedin
TableI and thefiguresderivedfromit presenta thetop2,000in termsofcapitalemployedin the
summary analysisof thebalancesheetstructure, U.K. non-financialcorporatesector.They are

TABLE I
Thebalancesheetstructure, andprofitability
gearing, of largeandsmallU.K. companiesin themanufacturing
and
industries
non-manufacturing (excluding oil) in theperiod1987-89

Manufacturing
companies Non-manufacturing
companies

Small Large Large Small

(Average% 1987-89)

1. Fixedassets
Nettangibleassets 30.2 34.2 26.4 52.4
Intangibles 0.4 3.3 0.9 3.4
Investments 0.9 7.0 3.5 3.4
Totalnetfixedassets 31.5 44.4 30.9 59.2
2. Currentassets
Stockandworkin progress 19.6 19.8 25.0 14.0
Tradeandotherdebtors 37.9 23.6 36.0 19.3
Investments 1.0 2.8 0.6 1.7
Cashandshorttermdeposits 9.9 9.3 7.9 5.8
Totalcurrentassets 68.5 55.6 69.1 40.8
Totalcurrentandfixedassets 100.0 100.0 100.0 100.0
3. Currentliabilities
Bankoverdrafts andloans 11.3 6.1 11.0 4.4
Directors shorttermloans 0.5 0.0 2.7 0.0
Othershorttermloans 0.3 1.1 1.1 1.3
Tradeandothercreditors 35.3 23.6 41.9 21.9
Dividendsandinterest due 0.3 1.7 1.3 1.5
Current taxation 7.1 4.8 4.4 3.9
Totalcurrentliabilities 55.0 37.3 62.4 33.1
Netcurrent assets 13.5 18.3 6.8 8.3
Totalnetassets 45.0 62.7 37.6 67.5
4. Longtermliabilities
ShareholdersInterests3 36.1 42.0 26.8 47.4
Minority andprovisions
interests 2.3 6.5 1.1 2.8
Loansb 3.2 11.5 6.3 15.4
Othercreditorsandaccruals 3.4 2.7 3.5 1.9
Totalcapitalandreserves 45.0 62.7 37.6 67.5
Totalcapitalandliabilities 100.0 100.0 100.0 100.0
5. All loansas % totalassets 15.3 18.7 21.1 21.1
All loansas % shareholdersinterest 42.4 44.3 78.7 44.5
Longtermloansas % all loans 20.5 61.7 29.4 72.9
Interestexpenseas % earningsbeforetax 15.4 12.4 21.4 14.7
on netassets
6. Pretaxreturn 15.9 19.6 19.1 14.4
on totalassets
Pretaxreturn 12.4 14.3 13.0 17.6
on equity
Pretaxreturn 10.4 19.1 18.8 13.3
a
Ordinary, pluscapitalandrevenuereserves.
pluspreference
b Directors anddebenture
loans,bankloans,convertible ofoverone year.
loans,all ofwhichhavea duration
Source:BusinessMonitorMA3 Company Finance:VariousIssues.
154 AlanHughes
primarilyquoted companies. 'Small' companies
are a 1 in 300 sample of the remainderof the
corporate sector stratifiedby size of capital
employed. Averages for these two groups may
obviously conceal wide variationswithinthem,
and may also reflectthe effectsof aggregation
acrossindustriescharacterisedto different
degrees
by the presence of large and small firms.As a
roughcheck on the lattereffecta breakdownof
the sample is provided into manufacturingand
non-manufacturing industries.The data are the
best available officialstatisticsforthepurposein
hand and may be comparedwithsimilaranalyses
specially carried out in the Bolton and Wilson
Reports.It is worthemphasising,however,thatin
the course of the 1980's increasingnumbersof
small companies took advantageof the dispensa-
tion to submitmodifiedaccounts in theirreturns
to Companies House. This has led to an increase
in the estimationinvolved in producingthe data
whichis reportedhere.It is ironicalthatat a time
wheninformation on small companyperformance
is of growinginterestit is becomingincreasingly
difficultto obtainit in a usefulform.Consequently
whenI tryto probebeyondtheseaggregatefigures
I use a specially constructedpanel sample foran
earlierperiod 1977-83 (Cosh and Hughes, 1994),
which pre-dates the extensive use of modified
accounts, and for later years the results of the
ESRC CentreforBusiness ResearchSME surveys
(SBRC (1992), Cosh and Hughes (1996)). Both
of these sources cover samples of over 2,000
firms.
The data in Table I, and the accompanying
Figures 1 and 2 derivedfromit, are presentedas
averages over the threefinancialyears 1987-89.
Each balance sheetitemis shownas a percentage
of totalassets/liabilities whilstratesof returnare
shownupon calculated totalassets,netassets and
equity(ROTA, RONA and ROE respectively).In
view of our interestin therole of debtand equity
in financialstructureseveral measuresof gearing
are calculated. First, a simple stock measure
expressingall loans as a percentageof totalassets.
Second, a ratio designed to capturethe relative
importanceof shortand long termgearing(long
termloans as a % of all loans). Third, a stock
measure which relates all loans to shareholders
interestsand finally a flow measure showing
interestexpenseas a percentageof earningsbefore
tax. A numberof conclusionsmay be drawnfrom
Table I, and Figures 1 and 2.
(a) Asset structure
(1) Small companies have a relativelylow ratio
of fixed to total assets. In the non-manufac-
turingindustries,for instance, small com-
panies hold 30.9% of theirtotalassets in the
formof fixedassets. For largecompaniesthe
figureis 59.2%.
(2) Small companies have a relativelyhigh pro-
portionof Trade Debt in theirasset structure.
Thus in manufacturingTrade and other
Debtors comprise37.9% of total assets. For
large manufacturing companies the figureis
23.6%.
(b) Currentliabilities
(1) Currentliabilitiesare a higherproportionof
total liabilitiesfor small thanforlarge com-
where
paniesespeciallyin non-manufacturing,
the respectivepercentageswere 33.1% and
62.4%.
(2) Small companies are more relianton short-
term bank loans and overdraftsthan large
companies (4.4% and 11.0% of total assets
respectivelyin the non-manufacturing sector
forinstance).
(3) Trade and other creditorsare a higherpro-
portionof liabilitiesfor small thanforlarge
companies.In manufacturing Trade and other
Creditors were 35.3% of total liabilities
compared to 23.6% for large companies. In
comparisonwith the Trade Debtor ratioswe
findthatthe small manufacturing companies
were net receiversof credit.For large com-
panies Debtors and Creditorscancel out.
(c) Long termliabilities
(1) Small companies are less reliant on share-
holders intereststo finance their assets. In
manufacturing for instance these accounted
for 36.1% of total small firm liabilities
comparedto 42.0% forlarge companies.
(2) In non-manufacturing, gearing,(as measured
by thestockratioof totalloans to shareholders
interest,or by the flow measure of interest
expense as a percentageof earningsbefore
 Financingfor SMEs: A U.K. Perspective 155

ShortTermBank Loans
and Overdrafts/Total
Net Fixed Assets Trade Debtors CurrentLiabilities
mfflT
70.0 t Assets

!I I I I I I I I
60 0 t ^^m

^ I* Large Companies
j ^H ^H ^^ ^H ^H

1
o
.1
go
I
t»
.I
5E '-»
I
o
.1
so
I
o
.I
c 'j

S ES SS E2 £

Fig. 1. Selected Financial Ratios I: U.K. SMEs 1987-89.

-••
anarenoiacrs lotal Loans/lota! bong icm
80.0 T Assets
Interest/Total .Assets Loans/TotalAssets Assets

70.0j ^M
60.0t H H
2 50.0 j ^1 ^|

2 40.0 JB H H ,°
H
I ^M ^M ^M \ SmallCompanies
^ 30.0' i"LarRCCompanies
36I^H ^H ^H
^1 I 1 ^1 29.4^1

1 . '5 | ,1 1 .i I .I
e c c ee cc c
2 E2 E2 E2 S

Fig. 2. Selected Financial Ratios II: U.K. SMEs 1987-89.

156 AlanHughes
interestand taxes) is higherfor small com-
panies thanforlargercompanies.
(3) In manufacturing smallcompaniesare slightly
more highlygeared on the flow measurebut
slightlyless highlygeared than largercom-
panies on the stock measure.
(4) If we comparetheratioof totalloans to total
assets, however,thereis verylittleto choose
between large and small companies in non-
manufacturing.In manufacturingthe larger
firmsare more highly leveraged using this
measure.
(5) In bothmanufacturing and non-manufacturing
small firmsare much more relianton short
termloans. Thus in manufacturing long term
loans are only 20.5% of all loans for small
firms,but 61.7% of all loans forlarge firms.
Thus in manufacturing we findlittledifference itabilityof largeand smallfirmshas been reversed
in overall gearingbut withinthe overall level of
gearinga greateremphasisin smallfirmsis placed
on shorttermloans. The high reliance on short
termfinanceprovidedby banks,and therelatively
low proportions of assetsfinancedby shareholders
interestsare clearly long run persistentfeatures
of small businessfinance.The same is trueof the
relativeimportanceof tradedebt,and tradecredit
and the relativeunimportanceof fixed assets in
theirbalance sheet structure.Thus our results
matchtheresultsof previousinvestigations forthe by the Bolton research team for the period
1960's and 1970's for the U.K. It does appear,
however,thattheextentof relianceon shortterm
loans and overdraftshas if anythingincreased
since the Bolton and Wilson reportswhere the
differencesreportedbetween larger and small
firmswere somewhat less than those shown in
Table I.
(d) Profitability
The implied relativelyhigh reliance on internal
fundsmakesassessmentof profitability important
in determiningthe growthpotentialof smaller
firms.Table I shows that;
(1) The profitability of small manufacturingcom-
panies is below thatof large manufacturing
companies on each of the three measures
shown. Thus for example the rate of return
on totalassets (ROTA) was 12.4% forsmall,
and 14.3% forlarge,companies.
(2) The profitability of small non-manufacturing
companies was above thatforlargercompa-
nies when measured as thereturnon netassets
(RONA) or equities(ROE), butbelow thatfor
larger companies on a ROTA basis. They
earned a ROTA of 13.0% compared to the
17.6% ROTA of largercompanies.
(3) Profitabilityestimates based on ROTA are
relativelylow forsmall firmsbecause of their
muchhigherrelianceon shorttermliabilities
in the formof tradecredit.Nettingout short
term liabilities to calculate returnson net
assets inevitablyraises estimatedsmall com-
pany profitabilitycompared to large com-
panies.
These results imply that the relative prof-
since the Bolton Report.
The Bolton Report provided estimates of
ROTA, RONA and ROE forsmall and largebusi-
nesses in 1968, whilst estimates of RONA for
1973-75 werepreparedfortheWilsonCommittee.
These estimates showed that small firmprof-
itabilitywas between 8% and 30% higherthan
larger company profitability, depending on the
measureand timeperiod.This superiority was also
recordedin a numberof otherstudies surveyed
1958-68. It is apparent,however,thatover the
years shown the gap was narrowing,and that,as
we have seen, it was reversedby the late 1980's.
We can probe a little furtherbehind these
profitability figuresby makinguse of a specifi-
cally constructed panel data setcoveringtheyears
1977-83 which in part fills the gap in time
betweentheprofitability resultsof Table I and the
Wilson and Bolton Reports (Cosh and Hughes,
1994). This data set has a numberof advantages.
First,it allows us to distinguishbetweendifferent
timeperiods,1977-79 and 1980-82, so as to pick
up any greatervolatilityin small business prof-
itabilityin theface of recessionin theearly1980s,
and, secondly,it allows us to disaggregateby a
widerrangeof sizes.
For the sake of brevitydiscussion is confined
to one measureof profitability, the ratioof profit
to net assets; (RONA); Figure 3 shows median
values of RONA averagedovertheyears 1977-79
for 1,191 continuingcompanies rangingin size
 forSMEs: A U.K. Perspective
Financing 157

from£30,000to £12.5 billionin termsof total thanthelargesize classesbutthewidedispersion

assets in 1976 and for 1,185 companiesin the ofreturnspreventsthisfrom beingstatistically
sig-
period1980-82.Onceagainsmallerfirmsappear nificant.
ingenerallessprofitable thanlargeronesbutthere From the point of view of the financeof
is a non-linearrelationship betweensize and companygrowththese findingshighlightthe
profits.Thus thesmallest3 size classes showa relativefinancialvolatility
of smallfirmsto the
lowerRONA thanthetop3 butthedifference is tradecycle (a volatilitywhichis reinforced by
onlystatisticallysignificant(oneitherthemeanor an analysisof companyfailurein thisdata set
medianmeasure)when sizes 1, 2 and 3 are (CoshandHughes,1993)).Theyalso confirm the
comparedwithsize class 4. Thereafter average relativeriskiness
of thissector.
RONA declinesinsignificantly withsize.
The years 1977-79 were relativelybuoyant
and financeforexpansion
3. Profitsretentions
compared with1980-83.Theresults ofananalysis
of RONA fortheselatteryearsis also shownin Small firmsare heavilyrelianton retentions to
Figure3. The impactoftherecessionis dramatic. fundinvestment flows.Therelativelylowlevelof
WhereasRONA fallsfrom9.9% to 4.7% forall whichwe findforthe small firm
profitability
companies,by farthemostdramaticfallsoccur sectoris coupled withan absenceof dividend
inthesmallersize ranges,withsize class 1 falling payment bythemandhencea policyofmaximum
forexamplefrom8.7% to 1.8%.Theresultis that retention
forgrowth andreplacement investment.
sizeclasses1 and2, withan upperlimittotalasset Thusthemediancompany intheCambridge panel
size of£500,000in 1976,nowhavea significantly withtotalassetsofless than£2.5millionpaidno
worseprofit performance thansizeclasses4, 5 and dividendsat all in theperiod1977-79.
6, wherethelowercutoffpointis £2.5 million. We can gain a further insightinto funding
lowerRONA
Size class 3 also has a substantially byswitching
patterns froman analysisofcompany

Fig. 3. Medianprofit
ratesbysize ofcompany.
158 AlanHughes
accounts to the results of the Cambridge SME
Surveys(SBRC (1992), Cosh and Hughes(1996)).
Sixty-fivepercentof the 1991 Cambridgesurvey
sample of over 2,000 firmshad soughtexternal
financein the threeyears 1987-90. The propor-
tion in the Bolton sample was 26% but in that
surveythe question related to the previous two
years.However,if we adjust the Bolton figureto
39% in orderto make it comparable to the later
finding,we can see a markedincreasein thepro-
portionseekingexternalfinance.It is notpossible
on thebasis of our studyto say whetherthisis a
trendor cyclical difference.Moreover the Dun
and Bradstreet sampling frame on which the
Cambridge surveysare based is biased towards
firmsseeking finance since it is a creditrating
database. What is striking,however,is thatof the
65% whichsoughtfinancein theperiod 1987-90,
only a small number(25) failed to obtain some.
This may reflecta reluctance to admit having
soughtfinanceand failed to get any or relatively
easy financialconditionsin theperiod1987-1990.
The CambridgeSurveyof 1995, however,reveals
similarlyhighsuccess ratesin theperiods1991-93
and 1993-95 in ratherdifferent financialcondi-
tions(Cosh, Duncan and Hughes (1996)) Takenas
a wholetheseresultscontrastwithearlierfindings
for the U.K. Thus in the Bolton sample about a
thirdof thoseseekingfinancefailedto obtainany
at all and so in that sense theremay have been
some closing of the small firmsfinancegap since
then.
A comparisonof the proportionseekingaddi-
tionalfinanceacross variousgroupsof firmsin the
Cambridge survey covering the years 1987-90
showed that therewas little differencebetween
manufacturing and services, whereas the Bolton
surveyfound thatmanufacturing firmswere far
more likely (32% in the previous two years) to
have soughtadditionalfinancethanservicefirms
(20% in previoustwo years). On the otherhand,
and like the Bolton survey,the Cambridgedata
show that larger companies and faster growth
companiesare morelikelyto have recentlysought
additionalfinance. In addition,a higherpropor-
tionof newercompanies seek externalfunding.
Cambridge survey firms who had obtained
externalfinancewere asked to indicatethe pro-
portionobtainedfromdifferent sources.This gives
a clear picture of the relative importanceof
differentsources of finance. The responses for
the period 1987-90 are shown in Table II and
Figure4. Table II shows thatbanks are by farthe
mostsignificantprovidersof financeto the small
firmsector.The banks providedsome financeto
84% of those who had raised finance, and a
separate analysis shows thattheyaccounted for
morethanhalfof theadditionalfinanceraisedfor
65% of the sample. Loans were dominantas the
firstsource of financesoughtafterinternalcash
flow. The next most importantsource was hire
purchaseor leasing whichwas a sourceof finance
to 45% of the sample firmswhichhad raised new
finance,and accountedforoverhalftheadditional
finance in 14% of the cases. This has clearly
grownin importanceas a significant alternative
to
furtherborrowingsince the Bolton Report and
fromthe point of view of the contractingparties
solves several moralhazard and defaultproblems
whichwould be presentif assets were boughton
the basis of debt finance.The Cambridge SME
Surveys of 1993 and 1995 reveal a furthershift
in this direction (Cosh, Duncan and Hughes
(1995), Cosh, Duncan and Hughes (1996)). The
onlyotherimportant sourceis partnersor working
shareholderswho were identifiedas a source of
financein 19.5% of the firmsin 1987-90. Table
II and Figure 4 also show whatproportionof the
funds raised in the period 1987-90 came from
these various sources. Banks accountedfor60%
of total fundsraised and hire purchasefor 16%.
Partnersand WorkingShareholdersputup another
7.6%. Much further behindcome venturecapital-
ists (2.9%) and private individuals (1.7%). By
1995 themean shareof fundingraisedfrombanks
had fallento 50% and themeanshareof hp/leasing
risento 31%, withonly minorchanges occurring
in the importanceof the other sources (Cosh,
Duncan and Hughes (1996)).
When the 1987-90 Cambridge sample is
dividedintothedifferent groupsof firmsthebroad
picturealreadyidentifiedis maintained,but there
is some differencein emphasisacross thegroups.
Newer firmsraised a lower proportionof their
additionalfinancefrombanks and hire purchase
or leasing; consequentially,
theyweremorereliant
on othersources,particularly privateshareholders
(both workingand other).This reflectstheheavy
reliance on this sort of finance in the startup
phase. In a similar way service firmswere less
 forSMEs: A U.K. Perspective
Financing 159

TABLE II
Sourcesofadditional
financeforSMEs

Sourceoffinance All Micro Small Medium Larger Older Newer Stable/ Medium Fast Mfg Services
declininggrowth growth

9cofrespondents receivingadditional
financefrom:
Banks 83.7 80.5 84.1 85.7 90.1 85.4 81.8 82.4 84.7 87.4 85.6 81.6
Venture capital 6.5 2.4 7.1 13.4 6.3 5.5 7.4 4.8 6.0 8.3 7.5 5.4
Hirepurchase/
leasing 44.6 33.3 50.3 46.2 41.4 50.3 38.8 38.1 51.0 47.8 48.3 40.4
Factoring 6.0 3.7 7.3 7.6 3.6 4.1 7.4 7.3 4.5 5.4 6.2 5.8
Customers/suppliers 8.5 9.8 7.7 7.6 9.9 8.2 8.7 11.7 7.4 8.3 8.9 8.1
Partners/working
shareholders 19.5 24.6 17.4 25.2 13.5 15.3 23.7 15.4 18.4 23.7 15.0 24.5
Otherprivate
individuals 5.6 9.4 4.9 3.4 1.8 2.5 8.4 4.0 3.3 7.6 4.1 7.2
Othersources 9.7 8.1 9.3 11.8 14.6 9.4 10.0 9.5 9.3 10.1 8.9 10.6
Mean 9csharebysourceoffinance:
Banks 60.6 60.8 59.1 60.1 68.9 64.6 56.6 63.5 62.1 58.5 62.5 58.4
Venture capital 2.9 1.0 3.4 5.2 2.6 2.4 3.4 2.6 2.4 3.7 3.1 2.8
Hirepurchase/
leasing 16.0 13.9 18.3 12.6 12.7 17.5 14.6 13.4 18.1 16.8 18.2 13.4
Factoring 3.5 2.2 4.1 4.2 2.4 2.2 4.5 3.9 2.7 3.1 3.3 3.7
Customers/suppliers2.2 2.6 2.0 1.9 1.8 1.9 2.5 3.2 1.9 2.3 1.9 2.6
Partners/working
shareholders 7.6 11.8 6.7 7.2 3.6 5.5 9.9 7.1 7.0 8.1 4.6 11.1
Otherprivate
individuals 1.7 3.0 1.5 0.8 0.4 0.6 2.8 1.1 1.1 1.7 1.4 2.0
Othersources 5.4 4.7 4.9 8.2 7.5 5.2 5.7 5.3 4.8 5.8 4.9 6.1
(no.) 1185 297
Totalresponses 648 119 111 561 598 273 418 278 627 554

Source:SBRC (1992).

dependenton thesetwomainsourcesand farmore 1980's. A furtheranalysisof theinterestpayment

relianton partnersand workingshareholders.
As mightbe expected, the fast growthfirms
appear to have drawn theirnew financefroma
wider variety of sources than slower growing
firms.Thus apart fromfactoringand customer/
suppliers,both of which were of minor impor-
tance,thefastgrowinggrouphad a higherpropor-
tionfromeach of the othersources. But even the
fastgrowthgroupwas heavilydependenton bank
financeand obtainedverylittleoutsideequity.
A comparisonof size groupsin 1987-90 shows
that larger firmshad the highest proportionof
bank financeand thatthe microfirmswere more
reliant on private individuals, partners and
workingshareholders.The results also suggest
that,whilst finance fromventurecapitalists is
generallyinsignificant,its greatestimpact was
among medium-sizedfirms.Medium and Larger
SMEs also have more term loans in the late
structureof the surveyedfirmsas a whole also
suggestssome increasein the importanceof term
loans. Thus fixed interestpaymentsas a per-
centage of all interestpayments increased in
importance between1987 and 1990. Whereas56%
of firmshad no fixedinterestborrowingsin 1987
thisproportion had fallento 47% by 1990, and the
proportion of firms withfixed interestpayments
proportions in the range 1-49% rose from21 to
28%. This trendhas continuedin the 1990s (Bank
of England (1996)).
The analysis confirmsthe unimportanceof
outsideequityas a sourceof new financeamongst
small firms and even amongst those growing
fastest; increasing debt, which in the period
1987-90 was forsmall firmsprimarilyshortterm,
was the overwhelminglymost significantroute,
followed by raising additional 'insider' equity
capital.
160 AlanHughes
Fig. 4. Shares of amountof additionalfundingobtainedby source.
This is consistentwitha 'peckingorderhypoth-
esis' of fundraising(Myers and Majluf (1984)).
Funds are sought in an order which minimises
externalinterferenceand ownershipdilutionby
leaving equity till last afterretentionsand debt
have been exhausted. This also has positive
signallingqualities in so faras preferring debt to
an earlyissue of equityimpliesconfidencein high
returnsand an unwillingnessto share themwith
new shareholders.The upshotis thatsmall firms
are characterisedby a relativelygreaterreliance
on shorttermloans and overdraftsand a much
smallerrelianceon equityfinancethanare larger
firms.This structure, is as we have seen, of long
standing,as is the greatersignificanceof trade
debt and trade credit in their balance sheets.
During the long boom of the 1980's it was
associatedwitha substantialincreasein shortterm
gearingas small companies found it possible to
gain access to bank financeon a large scale. The
impactof high interestrates and recession were
thereforeeven more damaging than they might
otherwisehave been when the long boom ended.
For a sector dependentin the firstinstance on
retainedprofitsto financegrowththe 1980's were
nothistorically a particularlyauspiciousperiodfor
SMEs. Whereas in the 1960's and to a lesser
extent the 1970's they had recorded somewhat
higherreturnsthanlargerfirms,by the 1980's the
positionwas reversed.Althoughthequalityof the
data requires the exercise of some caution it
appearsthatsmallfirmssuffered badly
particularly
from the impact of the recession of the early
1980's.
One importantconclusionto emergefromthis
analysis is thatthe financial structureof SMEs
mayreflectwell thewishes and strategiesof their
ownersas much as constraintsplaced upon them
by suppliersof finance.It is thereforenecessary
to probe qualitativelybeyondthe financialstruc-
tureitselfto addressissues of financialconstraints
moredirectly.Here case studyevidence (ACOST
(1990)) supportstheoreticalargumentsforsome
marketfailureson the loan and equityfrontsfor
rapidlyexpandingor innovativefirms,as well as
therelativepaucityof informalventurecapital in
the U.K. In the latter case in particular the
Cambridge survey data supports case study
material.Informalfunds(i.e. suppliedby private
individuals who were not workingpartnersor
owner-directors1) amounted,as we have seen, on
averageto only 1.7% of totalnew fundsraisedby
 forSMEs: A U.K. Perspective
Financing
the Cambridgesample of around2,000 SMEs in
theperiod 1987-90, whilstformalventurecapital
averaged around2.9% with littlefurtherchange
by the mid 1990's (SBRC(1992), Cosh, Duncan
and Hughes (1996)). This is also confirmedusing
wider sources of data for the 1990's (Bank of
England(1996), Bucklandand Davis (1996)). The
contrastwiththeUnitedStates is striking.In that
country informal venture capital is twice as
important in quantitativetermsas institutionalised
venturecapital, (Wetzel (1987)). However, the
Cambridge Survey also revealed that informal
capitalwas at its mostsignificantamongstmicro-
firmsemployingless than 10 people. In those
firmsit accountedfor3% of new fundscompared
with 1.0% fromformalventuresources.
The natureof this typeof informalfinanceis
exploredin theESRC fundedworkby Mason and
Harrison(1994). One of theirmaincontributions,
in thefirstsystematicattemptto surveythissector
in the U.K., is to identifythe characteristicsof
U.K. informalinvestors,('business angels') and
theirinvestmentpractices.The problemsof sur-
veyingthissectorare formidableand are well set
out in theirwork,one part of which reportsthe
resultsof a postalquestionnaire sampleof 78 firms
supportedby 8 face to face interviews.The small
sample sizes reflect the paucity of systematic
information to serve as a samplingframeas well
as thereticenceof 'angels' (shown to be predom-
inantlymiddle-agedbusinessmenwith a contin-
uing interestin other business(es) they have
founded) to reveal themselves to public gaze.
Mason and Harrison'sanalysis confirmsthe role
playedby 'businessangels' in supplyingrelatively
small sums (median value of around£22,000) to
smaller businesses that is suggested by the
CambridgeSurveyresults.Theirdetailedanalysis
shows that this reflects the relatively modest
incomes of business angels (only 16% reported
earningsabove £100,000), theirsmall individual
investmentportfolios(75% had invested under
£50,000 in totalin the previousthreeyears,with
only 12% of individual investmentsin amounts
over£50,000), and theirreluctanceto takepartin
syndicateddeals (66% always or usually acted
independently).Nevertheless,the highlyskewed
natureof both income and wealth in the Mason
and Harrison sample meant that in total their
86 respondentshad available investible funds
161
amountingto nearly£10 million.2In additionto
theirpotentialand actual role as financiers,the
strongentrepreneurial and managerialbackground
of the typicalinvestorin theirsample meantthat
theytypicallyplayeda 'hands-on'roleas minority
shareholders, joining theboard in around27% of
cases, and playing a purelypassive role in only
20%. Whilstthismaybe beneficialin cases where
injections of both expertise and finance are
requiredit may have costs in termsof conflicts
over strategyand control where they are not
(Harrison and Mason (1992)). Moreover,given
thatover 50% of the sample expected to 'exit'
from their investmentwithin 3-5 years, the
implicationsfromthe point of view of growing
medium-sized independentcompanies are not
necessarily promising. Indeed, as Mason and
Harrisonnote, U.K angels are less 'patient' than
theirU.S. counterparts, and morelikelyto sell to
'outsiders' via mergeror stock marketflotation
thanto sell theirsharesto 'insiders'.Froma policy
pointof view, whatemergesmoststronglyis that
if this sectorof the financialmarketis to play a
moresignificantrole a greaterdegreeof informa-
tionexchangeaboutpotentialinvestorsand invest-
mentopportunities is required.Thus Harrisonand
Mason show theessentiallyad-hocnatureof much
business angel search and referralactivity.The
essentiallyindividualisticnatureof the informal
investmentactivitywhich their survey reveals
leads the authorsto conclude that one possible
avenueforpolicyintervention is to be foundin the
promotion,especially at a local and regionallevel
of information brokerage, either throughtheTEC
system or the Business Link 'one-stop shops'
introducedby the DTI.3 The informalinvestors
investigatedby Mason and Harrisonare primarily
interestedin high growthpotential businesses,
manybut not all of whichare to foundin sectors
where innovation intensive activity offers the
prospectsof spectacularbreakthroughs. The finan-
cial problems facing these 'New Technology
Based Firms (NTBFs) has been of particular
policy concern,notleast because findingssuch as
those of Pavittet al. (1987) have suggestedthat
theshareof innovationsaccountedforby smaller
firmssince the 1950's in theU.K. has outstripped
the contribution whichmighthave been expected
given theirshares of outputor employment.It has
been suggested in the reviews by Barber et al.
162 AlanHughes
(1989) and by ACOST (1990) that, although
NTBFs play a crucial role in the economy,they
find it disproportionatelydifficult to obtain
appropriatefinancingfromtheinstitutions. This is
because such firmsare perceivedto be particularly
risky for several reasons. The firstis they are
frequentlyattemptingto introduceproductsand
processes which are new to, and untestedin, the
market.Secondly thefirmsare oftenin industries
where rapid developments make existing tech-
nologyobsolete and thirdlytheyare oftenin busi-
nesses which have only a single product.Finally
the businesses are oftenowned and managed by
individualswithstrongertechnicalthanbusiness
skills.For all thesereasonsit is notsurprising that
studiessuch as those by Oakey (1984) suggested
thatbank finance is significantlyless important
at startup for NTBFs than is the case for con-
ventionalsmall businesses. Even so, theseresults
contrastwiththose of Monck et al. (1988) which
indicatelittledifferencein theways in whichhigh
technologyfirmsare initiallyfunded,compared
withsmall businesses as a whole.
Moore (1994) provides a detailed analysis of
the issue. He takes 292 high technologysmall
companies and compares them with more than
1,700 smallercompanieswhichare notin thehigh
technologysector.Both groupsare asked thesame
questions about the extent to which a range of
factors have constrained the growth of their
business. For both high technologyand conven-
tionalfirms,financeconstraintsare seen to be the
most important. In a multipleregressionanalysis
Moore demonstrates thatthebusinesseswhichare
mostlikelyto reportfinancialconstraints are those
which are young, in the manufacturingsector,
have below average profitability and are smaller.
Holdingtheseand othervariablesconstant,Moore
can findlittleevidence thatthe high technology
business is more likely to experiencedifficulties
in obtainingfinance than its counterpartin the
conventionalsectors.Indeed it appears to be the
case that the small high technologyfirmis, if
anything,more likely to be in receiptof venture
capital and support from private individuals
(Angels) thanis thecase fortheconventionalfirm.
It is the youthand lack of trackrecordof these
firmsratherthantheirhi-technatureas suchwhich
appearsto constraintheiraccess to funding.Since
theyare relativelyyoungand small theirplightis
howevera specificreflectionof severalproblems
facingthe SME sector.
The second special case is the financingof
ethnicor non-whitebusinesses. The centralissue
here is whetherthereis evidence of the owners
of thesebusinessesbeingdenied access to loan or
equitycapital on racial groundsand whetherthe
mode of financinginfluencesthe performance of
theethnicbusiness sector.
The major researchfindingon thistopic in the
UnitedStates has been providedby Bates (1991).
Bates' work findsthatin the United States start
up businesses established by blacks tended to
receive smaller loans from banks than white
owned startups. Secondly he found thatblack-
owned firmswere under-capitalised,compared
withwhiteowned firms.
Bates hypothesesthat commercial banks are
more likely to lend to individuals with more
humancapital,moreequityand withdemographic
traitsthatare associated positivelywithbusiness
viability.In this contexthuman capital is likely
to be reflectedin the level of education of the
individuals,theirage, whetheror not theyhave
previousmanagerialexperienceand familysmall
business background.The firstkey resultwhich
Bates generatesis that,even when these factors
are takeninto account,it is still the case thatthe
loans made to white business startups exceed
those made to black business startups.
Bates then shows that it is lower levels of
capitalization which are associated with higher
risk of business failure.From this he infersthat
at least partof theobservedhigherfailurerateof
black owned firmsreflectsthis lower capitaliza-
tionand that,mostsignificantly, theirfailurerates
would be no differentfromwhite-ownedstartups
if theyreceived a similarlevel of externalloan.
Researchon thefinancingof ethnicbusinesses
in the United Kingdom in the ESRC programme
has not made use of the huge databases or the
statisticallysophisticatedtechniques which are
employed by Bates. Nevertheless the ESRC
fundedworkbyJones,McEvoy and Barrett(1994)
provides helpful insights. They review the
financingof bothwhiteand non-whitebusinesses.
They show that the most strikingdifference
between ethnic groups, in terms of mode of
financing,is not betweenwhite and non-whites,
but between Asians and Afro-Caribbeans.They
 forSMEs: A U.K. Perspective
Financing 163

showthatAfro-Caribbeans are perhapstwiceas finance,andin theirrelationshipswiththebanks.

likelytoexperience problems obtainingbankloans Whether thisconstitutes
an illustration
ofa market
as whiteapplicants. Secondlytheyshowthatthe or whether
failure, itmerelyillustratesthehigher
Asianbusinessis significantly morelikelytohave riskassociatedwiththesetypesof businessesis
been establishedusing loans fromfamilyor notclearfromtheresearch conducted so far.
friends thanis thecase eitherforwhiteor Afro-
Caribbean businesses.
Thirdly theypointtorecent, 4. The implications
but highlysignificant, changesin the ways in
whichAsianbusinessesare beingfinanced. They To whatextentdoes theevidencepresented here
suggestthat,if anything, U.K. banksnow look support,or undermine, the view thataccess to
morefavourably upontheAsianbusinessowner, financehas inhibited thecontribution whichsmall
thanuponthewhitebusinessowner.However,in firmsmaketo theU.K. economy?Do thepapers
a veryinteresting analysisof thosebusinesses providefurther evidenceof "gaps" or "market
establishedby Asians whichhave been funded failure"?If so, whatshouldbe done to rectify
100% by thebank,the authorsshow theseare thesematters?
muchmorelikelytohavebeenstarted byBritish- The evidencein supportof the existenceof
bornAsiansthanthosebornoverseas,and more "gaps"is provided mainly byMasonandHarrison
likelyto have been establishedby Asianswith intheiranalysisofBusinessAngels.Theysuggest
highereducational qualifications. thatmanysuchindividualsare seekingto make
In theircomments uponhowmatters arelikely furtherinvestments in appropriate smallercom-
to changethattheauthorsofferimportant policy panies,butare unableto obtaina sufficient flow
perspectives. Althoughthereis now clearlya of suitableproposals.Mason and Harrisonalso
muchgreaterwillingnessof banks to support suggesttherearebusinessowners, whosefirms are
Asianownedbusinesses, theevidenceis thatbank constrained in their a
growthby "shortage"of
support to obtainforbusinesses
is moredifficult equity,and who would be preparedto sharethat
in thenon 'traditional'areas such as manufac- equity with informal investors. The clearimpli-
turingthan in the 'traditional'areas of food cationoftheirresearch is thatinformation barriers
retailingand confectionery, tobacconistsand existbetweenthetwogroups, andthatitwouldbe
newsagents(CTNs). Thus they point to the beneficialto the economyas a whole if these
changingcharacter of the Asian entrepreneurin barrierswereovercome.4
the1990s,as beingmorelikelytobe Britishborn However,littlefurther evidenceemerged from
and educatedto a highlevel,morelikelyto be theESRC research programme or the subsequent
seekingfinancefora businessoutsidethetradi- Cambridge surveysof 1993 and 1995 to suggest
tionalareas and less likelyto eitherwishto,or thatgeneralgaps existin thefinancing of small
be ableto,relyuponfinancefromfamilysources. firms,although it must be noted throughout that
It is unclearwhether thebanksare yettargeting, invariably such evidence arises from the analysis
orevenawareof,thistypeof shift. ofsurviving firms andseverefinancial constraints
To summarise, theredoes appearto be clear couldhaveproduced failure ortakeover (Coshand
evidenceofmarket imperfections inthefinancing Hughes (1994) and Cosh, Duncan and Hughes
of black businessesin the UnitedStates.Fully (1996)). Bearingthisinmindfinancial constraints
comparable workhas notbeenconductedin the did not appear in areas wheretheymightbe
UnitedKingdombut,thatwhichhas, does not expected.Forexample,Jones,McEvoyandErrett
suggestanyclearmarket failurein thefinancing intheirpaperonthefinancing ofWhiteandEthnic
of Asianbusinesses.The onlymajorreservation Businessesfind no difference in this respect
is whetherbanksare sufficiently awareof the betweenAsian and WhiteBusinesses.Theydo
'new' typeof entrepreneur emergingfromthe pointtoproblems experienced byAfro-Caribbean
Asian community. So far as Afro-Caribbean businessowners,butthesemayreflectboththe
businessesare concerned, theseare clearlyvery sectoralcomposition and poorerperformance of
different fromAsianbusinesses anddo experience businessesestablished by these groups. The fact
significantly greaterproblemsin both raising thattheyfindthatdiscrimination occursdoesnot,
164 AlanHughes
in itself,imply a marketfailure withoutfurther
work on the relative characteristicsof these
businesses.
The same principlesapply to the findingsby
Moore. He shows thatthe businesses which are
mostconstrainedare those which are young and
small - and thereforelikelyto appear mostrisky
- and manufacturing businesseswheretheamount
borrowedis likely to be higherthan for service
sector businesses. What Moore does not find,
althoughhe explicitlytestsforit, is evidence that
whenage, size and sectorare takenintoaccount,
businessesin thehightechnologysectorare more
likely to be finance constrained than those
operating in the more conventional sectors.
Althoughhe does reportthatboth groups claim
financialconstraintsto be theirmost significant
barrierto growth.What this points to is special
care in dealingwithyoungand small firms,NTBF,
and manufacturing firms.Distinguishingbetween
thosewho want to grow and have the non-finan-
cial capacity to do so and those who don't, and
dealing with the specific risk assessments of
high-techfirms, remain major challenges for
lenders.
So, what should be done? One role for gov-
ernmentis thatof encouragingthesharingof both
the risks and returns of business ownership
betweenthe providersof finance and the entre-
preneurs.One illustration of movingpolicyin this
direction would be to specify, a substantial
minimumsharecapitalforthosewishingto estab-
lish limitedcompanies and gain the benefitsof
limited liability whilst leaving businesses with
littleaptitudeforgrowthto remainunincorporated.
The provisionof equityfundingmoregenerally
will alwaysbe problematicforsmallerfirmsgiven
the internalpressuresto maintainindependence
and the 'signalling problems' associated with
issuing equity. Entrepreneurstotally convinced
that their business proposition will be hugely
successful,is veryunlikelyto be willingto share
the fruits of that success. As the National
Westminster Bank putitto theHouse of Commons
Select Committee:
where the businesses had real confidence in themselves
or theirproductsor theircustomers,theywould not give
up thatequity.Conversely,wherewe foundbusinessesthat
lacked directionvery badly and where the management
was extremelyweak and did not have much faithin their
product, in those situations they will give up equity
(HMSO (1994) pp. 107, 287).
On thisbasis manyproposals whichare put to
venturecapital organisationsor individuals are
likelyto includea highproportionof cases which
shouldnotbe supportedand thechallengeis to sift
these out on othercriteria.The developmentof
clearinghouse schemesto encourage'investment
angels' is worth pursuing here. So too is the
considerationof schemes to encourage 'plough
back' by theownersof SMEs eitherby tax breaks
for retentionsused to fund certain types of
'qualifying' investments, or more generaldiffer-
ential taxationof retainedprofits.The fateof the
BES suggests that technical progress in tax
avoidance may subverteven the best intentioned
of schemesbutthatshouldnot stop thesearchfor
an effectiveone.
On the loans frontsmallerbusiness may have
a role to play independentof governmentif
togetherwith,or independently from,banks they
could formconsortiato underwrite theirown loan
applications. This would on
capitalise information
held by the firmsthemselvesand solve some of
the information asymmetryproblems which
bedevil the lendingmarket.The developmentof
Mutual Guarantee Schemes along these lines is
common in Europe. There is a seedcornrole for
Governmenthere in overcoming 'public good'
problemsin settingthemup thoughnotnecessarily
in maintainingthemwheretheyare in operation
(see Hughes (1992)).
There is a case too for a 'public goods' role
for state or region backed developmentfinance
banks for smaller firms. The prime national
example of this sort of institution is the
Kreditanstalt fur Wiederaufbau (KfW) in
Germany.Its quasi-governmentstatus and long
termperformancehas given it highcreditratings
in its pursuitof internationaland nationalfunds
whichit uses to refinanceprivatesectorcommer-
cial long termloans to SMEs. SMEs benefitby
lower interestrates than would otherwise be
available, and more generousphasing of repay-
ments than would otherwise be the case. The
recent Trade and IndustryCommittee's recom-
mendationthata loan fundingschemealong these
lines be investigatedshould be followedup. The
importanceof boththemutualguaranteeapproach
and the KfW developmentbank approachis that
 forSMEs: A U.K. Perspective
Financing 165

thereis explicitrecognition of a public good drawn.The paperdrawsuponjoint workwith

problemis SME financing but the commercial David Storeypublishedas the introduction to
banks are not asked to solve it. They make Hughes,A. and Storey,D. J. (eds) Financeand
commercial lendingdecisionsincircumstances in the Small Firm, Routledge,1994. An earlier
whicheitherconsortiaof borrowing companies versionwas presented
to theESRC Small Firms
offerguarantees againstcost of defaultor state Initiative in Londonin June1994.
Conference
backed(butnotstatefunded)refinancing arrange-
mentsareavailable. Notes
Developments of thiskindshould,however, 1 Some businesses
enablebanksto shiftemphasisawayfromcollat- angels could be classified as
so thata widerdefinition
shareholders,
partners/working of
eral - backed shorttermlendingand towards !informalfundsmightincreaseits apparentimportance
longertermlendingbasedon humancapitaland somewhat.
businessprospects ratherthancarcasevaluation. 2 This amount bothinvestments in theprevious
comprises
Cosh and Hughes(1994) notethatthelatterhas threeyearsplusamountsavailableforinvestment.
3 Some TECs have this "match
tosomedegreebutitneedstogo further. alreadyoperationalised
happened making*'function.
One wayin whichbankscan builda longerterm 4 Harrisonand Mason also
implythatlatentdemandfor
andmorefruitful withtheirclientbase
relationship equityfinancewouldbe realisedif angelswereseen to be
is to build upon and strengthen decentralised moreaccessible.Theyregardthekeysteptobe a demonstra-
tiontobusinessownerssuchas angelsexistandareprepared
lendingdecisionsbasedin turnuponmorestable to makesmallinvestments.
regionalcareerpatterns.Lendingdecisionscould
thenbe moresatisfactorily basedon information
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