Banks accused of cramping style of small firms

By KEVIN TAYLOR

Jim Scott is rough on banks.

They hinder growth through their lending policies to small and medium-sized enterprises and are responsible for the debt aversion of small businesses, he says.

The former Air New Zealand chief executive charges banks with failing small enterprises through "home loan" style debt arrangements.

He thinks banks should assess the performance of businesses and lend on the basis of cashflows and quality of earnings.

But WestpacTrust, the country's biggest bank, says Scott's suggestion would be too costly not only for banks but for small business owners.

Scott's approach, the bank says, is to treat debt arrangements of small firms like those of larger businesses.

That, the bank argues, would be too onerous a burden on smaller companies. After all, there is a world of difference between a large listed company and a construction firm with 10 staff.

But if Scott had his way the days of small business people using their family homes, cars and baches - as well as business assets - for debt security would be over.

He argues businesses tie up huge amounts of equity which just sits idle, their owners being so debt-averse they want to own all their assets.

That equity should be freed to reinvest and could drive the growth the commentators and politicians say we need to lift our place in the world.

Scott, executive chairman of management and investment company Aquiline Holdings, has had many dealings with banks on behalf of small and medium businesses.

He told the Turnaround Management Association and Australasian Institute of Banking and Finance last month the overwhelming perception of these firms was that they were high-risk with very high failure rates, yet little research had been done on the issue.

He argued in a paper to the two bodies that they were New Zealand's most efficient businesses, and had the best and most productive operating practices.

But at the same time they typically had the weakest and most inefficient balance sheets.

They needed help - not hindrance by the Government and banks.

Scott is so critical of bank lending policies he says they have "teams of undertakers" ready to deal with a growth industry of receiverships and collapses - a situation he claims is contributed to by the attitude of banks themselves.

"The banking community, by its actions and behaviour, clearly believes that [small and medium businesses] are bad business."

Scott says one of the great failings of politicians and banks is their lack of appreciation of the enormous potential offered by smaller companies, if properly structured and supported.

He says banks must start offering "capital efficiency-enhancing" banking arrangements.

Instead of insisting on security over much of a business owner's personal and company assets, banks should be lending on a "cashflow covenant" basis where cashflows and quality of earnings warrant it.

That means assessing a company's earnings potential, not just demanding the typical "fire-sale asset backing".

Head of business marketing at WestpacTrust, Tim Buckett, says banks are in the business of lending and his bank has billions on loan to small business.

While he agrees with many of the issues Scott raises, like the importance of these businesses to the economy, Buckett says the approach he suggests is impractical and would be too expensive for both the bank and small businesses.

About 60,000 firms with less than $2.5 million in turnover have their primary account with WestpacTrust, and another 40,000 have a secondary relationship.

Buckett says the bank wants to "do business with small business". But they are higher risk than bigger firms because they generally have only one revenue stream.

WestpacTrust works with several thousand bigger firms it has provided finance for. In return for the backing they must provide quarterly financial figures.

If that approach were adopted for smaller firms, as Scott suggests, it would be too costly for the bank and too onerous for small businesses.

Instead, WestpacTrust is trying other ways to help small business through its business excellence awards, which offer in-depth assessment of firms, online tax payments, and a new Beyond Survival programme to teach small business owners about financials.

Buckett points to advantages with debt financing for small firms. Private equity providers could demand 20 to 30 per cent return because of the risk, whereas debt costs only the going interest rate.

He says there is a misconception banks give little thought to the small business market, but it is considered strategically important.

"We know those smaller ones grow into bigger businesses."

He says there is also a misconception small businesses need debt finance, but in fact more than 40 per cent of small firms get by without borrowing.

A clearly unimpressed Bankers Association executive director Errol Lizamore declined to comment on Scott's paper.

Business New Zealand chief executive Simon Carlaw also declined to comment.

Massey University banking studies centre senior lecturer David Tripe says while Scott is probably right, there is no data to back him up.

Scott says the reason smaller firms work so hard to own, debt-free, all their key assets is that they believe it is the only way of keeping the "demons from their door".

"It then follows that they can only afford expansion and growth when they have sufficient generated surpluses of cash available in their bank account."

That "equity only" approach has locked up much of the nation's valuable equity capital.

Scott says that "enormous hidden resource" of equity capital should be used to boost profit and cashflow in more businesses.