government

"We are a young country that has to use its capital smarter" - Don Argus

Some wise words from one of our most experienced business people. Lending to small-medium sized businesses is shrinking at a time where we need them to grow.

There needs to be a real focus on what is constraining growth and the answer is not found talking to economists, we think. Any discussion with the management of a growing business turns to working capital very quickly. No growth finance, no growth.

What keeps former NAB boss and BHP chairman Don Argus up at night?

One of the most experienced executives in the country, Don Argus has concerns about lending standards. Nic Walker

by Stewart Oldfield

What scares the "hell out of" Don Argus, a former chief executive of National Australia Bank and former chairman of BHP Billiton?

Iron ore prices? Interest rate rigging scandals? No. It is interest-only home loans.

"It scares the hell out of me – the size of the debt people are taking on without principal repayments," he says.

The famously forthright executive says banks giving million-dollar home loans to young people had lost perspective. "It used to be very difficult to get a home loan in the old regulated banking environment," he says. "Now it's like a commodity."

According to data compiled by the Australian Prudential Regulation Authority, interest-only mortgage loan approvals peaked at a record 46 per cent of total mortgage loan approvals in the June quarter of last year. 

Since then, their proportion of total mortgage approvals has reduced to 37 per cent, still much higher than the level of five years earlier.

NEGATIVE GEARING

The Reserve Bank said last month that further falls were possible in the proportion of interest-only loans being written as some banks continued to phase in the tighter lending standards being demanded by regulators.

"Some further falls in the share of high-LVR [loan-to-value ratio] lending and interest-only lending in the period ahead could be expected," the RBA says.

Interest-only loans have been particularly popular among those buying homes for investment purposes. Such loans can allow high-income earners to maximise the benefits of negative gearing.

Argus' views on interest-only loans are taken seriously in banking circles because he built his career around being rigorous on lending standards in the late 1980s and early '90s, avoiding the disastrous commercial loan exposures that hobbled his peers.

He was appointed head of NAB's credit bureau in 1986 and took over the top job from Nobby Clarke in October 1990,  remaining in the role until 1999.

He became chairman of what was then called BHP Limited from 1999 until 2010, when he oversaw a tremendous period of expansion as the company reaped the rewards of the resources boom.

INDEBTED CONSUMERS

The level of indebtedness among Australian consumers and the government is a drag on economic growth, according to Argus. This is already being seen as stimulatory monetary policies around the world fail to inspire consumer spending.

 He says Australian consumers are among the most indebted in the developed world and the governments that have been  embracing interest-only loans will leave a terrible legacy for future generations.

Argus says a correction in house prices is inevitable, starting with the apartment market. But he is not predicting a severe credit cycle as last seen in the early '90s when corporate losses and inflated asset values brought several Australian banks to their knees.

"It may not be as severe because bankers these days do understand that free cash flow is important when assessing the risk profile of corporates," he says. 

"But it remains to be seen how their risk-assessment processes stand up when interest rates begin to rise again for small business and consumer customers."

 Argus says a target of a 15 per cent return on equity for banks could prove difficult to sustain. "In today's diminishing return world, one should not forget that our large bank balance sheets rely on funding from offshore markets and this can become expensive at maturity if overseas banks falter in the wake of slower economic growth."

SPOOKED

That said, he believes it is prudent for banks around the world to rely more on tier 1 capital rather than debt instruments such as hybrids, which could be questionable in terms of tax deductibility and subordinated to other forms of funding. 

"You can never have enough equity capital," he says.

Australian banks have been strengthening their capital positions in recent years in anticipation of APRA's measures to address the financial system inquiry's recommendation for their capital ratios to be "unquestionably strong" by international standards. The big banks raised $5 billion of common equity over the past six months. This increased their common equity tier 1 capital to about 10 per cent of risk-weighted assets as of December 2015, 1.25 percentage points higher than a year ago.

The capital positions of some are also being supported by asset sales.

Argus says Australian banks have an important advantage over overseas ones, particularly in the US, given their relatively high level of non-interest-bearing and fixed‑term deposits. He attributes this to Australian consumers still seeing banks as safe havens compared with some of the collapses that have occurred offshore.

He has previously warned that a royal commission into banking conduct in Australia could spook foreign lenders at a time when domestic banks depended enormously on offshore lending.

GEOGRAPHICAL ADVANTAGE

He highlights the strengths of several Australian-listed companies. Macquarie Bank's fee-based business model, he says, is "probably as good an investment banking model that you will see".

BlueScope Steel has successfully reinvented its business model, while Amcor has demonstrated a record of consistent wealth creation. He also applauds Transurban's initiative in taking new infrastructure proposals to the Victorian government.

Argus says Australia's geographical position on the doorstep of Asia ensures the nation has a magnificent future as long as we take full advantage of its strengths, for instance in primary industry, education and health. 

"We are a young country that has to use its capital smarter," he says.

However, he is critical of the performance of governments since 2007. "We have managed to record a series of budget deficits, which leaves us with public debt, which will get the attention of the rating agencies, and the investments undertaken have hardly been productive.

"Going forward, if one thinks that one can ramp up GDP growth by spending billions on non-productive initiatives and promising unfunded activity, which only add to our fragile financial position, then we are in for some rough times ahead."


Read more: http://www.afr.com/personal-finance/shares/what-keeps-former-nab-boss-and-bhp-chairman-don-argus-up-at-night-20160420-goayvr#ixzz49Aqrvks9 
Follow us: @FinancialReview on Twitter | financialreview on Facebook

What could the Government do to fix our Broken Business Banks? And why does it really matter?

Insightful analysis by Alan Kohler in The Australian this weekend on what is holding business back and the negative effects on our economy. Sadly, our politicians seem to be disconnected from the reality of how to manage our economy.

How banks are running the economy

"A small business tax break is worthwhile perhaps, and likewise an RBA rate cut, and in each case it’s really all the government and the central bank can do."

Our view:

The Government could get involved investing modest sums on alternative finance platforms, like the UK Government did 3 years ago with powerful positive effects (and good returns on investment).

That would help overcome people's natural caution and skepticism. People tend to think that banks have some super-natural powers in deciding who is creditworthy. Overseas' experience makes it clear that they are simply expensive, bureaucratic building societies that have lost their way.

My father was a bank manager and retired when the computer took away his discretion. Bank managers in his days had real discretion and could support businesses with their growth plans. We need to re-invent banking by going back to why they came into existence in the first place. It had nothing to do with household mortgages which simply inflated the price of unproductive assets.

 

image.jpg
image.jpg

Here's a more detailed extract from Alan's article:

APRA, in line with global bank regulators, has also told them to increase their capital ratios, and since the system of risk-weighting means that only a quarter of the value of a real estate mortgage is counted against capital versus 100 per cent of a loan secured only against a business, that means all lending these days is more or less confined to mortgages.

It means the banks are basically not lending to those who don’t own a house or are already fully committed on their mortgages, and those who are building houses for investors.

So they are going elsewhere and paying 10-15 per cent more in interest than the banks would charge, except they’re not.

It means the divide between the haves and have-nots (a house, that is) has never been this great, and it’s also why this week’s rate cut by the Reserve Bank will make no difference and why the government’s efforts in the budget to help small businesses and middle income earners will only scratch the surface.

Banks actually run the economy by both creating money and circulating it, not the RBA or the government, and these days banks are only serving those who have equity in real estate.

According to economist Saul Eslake, home ownership rates among households headed by people aged 25 to 55 have dropped by an average of 9 per cent since 1991.

Most dramatically, the rate of home ownership among 25-34 year olds has fallen from 61 per cent in 1981 to 47 per cent in the latest census.

That is a huge social change: in one generation the number of families starting out and having children who also own their own home has dropped from almost two-thirds to less than half, and in the past 10 years the decline is accelerating.

It means the number of young people able to get a bank loan to start or expand a business, or to get a car loan or personal loan for anything less than 15 per cent interest, has also fallen significantly.

And a lot of that change is caused by the real estate market distortion inherent in negative gearing and the capital gains tax discount, which rewards highly geared property investors at the expense of owner-occupiers, who are in turn paying higher taxes than they otherwise would be in order to fund the subsidy to property investors.

So the combination of high house prices caused, in part, by negative gearing and the capital gains discount, with the transformation of banks into little more than building societies that lend almost exclusively against real estate, is the reason growth is weak.

A small business tax break is worthwhile perhaps, and likewise an RBA rate cut, and in each case it’s really all the government and the central bank can do.

But what’s really crimping entrepreneurship and growth is the post-GFC change to banking.

It means business people looking to expand have to come to Shylocks like your correspondent.

Most don’t bother.

Government waste: bureaucrats teaching us how to grow businesses

Budget 2016: $90m of our money will be spent on workshops for the government to teach entrepreneurs! And tell them how to get a tiny handout. Unbelievable waste!

$10m of that money on our platform would go around 10 times in the next 12 months and help seasoned business people do a $100m more business right now.

 

 

A Budget for Jobs & Growth is welcome but where do you find the finance to grow?

The Budget this week re-emphasised the critical importance of our Small-Medium Businesses (SMBs) in generating growth. We strongly believe that the main missing ingredient is a market which enables SMBs to access finance to grow on a reliable and timely basis.

The market for alternative finance in Australia is on track to grow to over $95 billion over the next 5 years and is changing at a rapid pace. Our confidential, flexible working capital product is unique in Australia and we are seeing very strong demand from growing businesses.

This is timely as bank lending to SMBs has decreased for the first time since the GFC (source: RBA): 

  • In Q4 2015, business credit for facilities less than $2 million decreased from $260.7bn to $260.6bn in a quarter which usually demands increased business finance
     
  • In 2015, only 13% of business loans were made to SMBs, compared to around 50% in the 1990s
     
  • Property loans since the GFC have grown by $538.7bn (+54%) while business lending for all sizes of business has increased by just $72.5bn (+9%)

One symptom of the scale of this problem is that the ATO is currently owed over $32bn in overdue tax, mostly from small businesses. The ATO has had no choice but to agree instalment payment plans with over 800,000 businesses in Australia in 2014-15 and this year is no different. In the first six months of 2015-16, more than 420,000 payment plans have been granted.

Without the finance to grow, fiddling with tax rates and allowances makes only a small difference when it comes to getting our economy on a solid long term growth trend.

Our Growth Capital Problem

According to the Australian Private Equity & Venture Capital Association - AVCAL - Australia has around 30,000 businesses which fall within the private equity ‘investment range’ (i.e. businesses that have growth potential and which are likely to require significant capital injections to realise that potential) (see Figure 2).

Many of those businesses will, at some point in the medium-term, seek investors for a variety of reasons such as succession planning, expansion capital, and turnaround financing.

PE funds are currently invested in fewer than 350 businesses in Australia: meaning that they presently have the funding capacity to financially back less than 2% of the total ‘investable pool’ of up to 30,000 businesses.

Combined with the regulatory capital constraints imposed on SME bank lending, accessing finance for growing businesses in Australia has rarely been tougher.

Time to ask where's the money to back our exporters - invoice trading solves the cashflow mismatch

 

Another week, another story about transitioning from the mining boom. Australian service businesses have a great deal to offer overseas companies. We see it every day. But without the finance to grow, how can you do it? Has anyone asked that question in Canberra?

Our broken Basel 2-3-4 system of regulatory capital makes our banks focus on residential mortgages, not lending to businesses. Time to change that. Now!

"Sheep, iron mine and Sydney Opera House," writes Yongyu Ma, a student, on the online forum Quora in response to the question "What do Chinese people think of Australia?"

Prime Minister Malcolm Turnbull this week headed a 1000-strong delegation of business people to China in an attempt to convince them we have more to offer.

Events and banquets were held across 12 Chinese cities, with Austrade officials acting as cupids, of sorts, setting up speed dating sessions for Australian businesses to tout the full diversity of our economic wares to Chinese buyers.

Australia can be as nimble, agile, innovative and excited as we like, but just because we’re good at providing services, doesn’t mean we’ll necessarily sell lots of them.



 

Small business credit - what happened to the Phase 2 credit protection reforms agreed at COAG in 2008?

In 2008, the Council of Australian Governments (COAG) agreed to a two phase reform process for the regulation of credit and that in Phase Two the Commonwealth would consider the need to change the definition of regulated credit, and to address practices and forms of contracts that were not subject to the Credit Act.

After lengthy consultation, on 21 December 2012, the Minister for Financial Services and Superannuation, Bill Shorten, released for public consultation draft legislation to address perceived gaps in existing credit regulation and enforcement. 

"A review of the provision of credit to small business has shown that, while the majority of small business lenders and brokers provide a valuable service, some practices exist that result in high financial losses to small business borrowers. The draft legislation seeks to strengthen protections for small business borrowers, particular where the loan in secured against the family home, including by extending the Australian Securities and Investments Commission’s supervision and enforcement ability.

While difficult to quantify the costs and benefits, some lenders will incur additional one-off implementation costs. Most lenders will not incur these costs as they already comply (or can readily comply) with the proposed changes.  Borrowers, particularly those which have exhausted mainstream alternatives, may find it more difficult and costly to obtain credit but will have access to redress if misconduct occurs.

The Regulation Impact Statement was prepared by the Treasury and assessed as adequate by the Office of Best Practice Regulation."


Treasury Update, October 2014 (K&L Gates)

Due to the government moratorium on legislation awaiting the findings of the Financial System Inquiry, Treasury is not currently pursuing Phase 2 of the credit reforms concerning small business and investment lending.


Regulation Impact Statement: Small business credit, January 2013 

This Regulatory Impact Statement (RIS) considers whether credit provided to small business should be regulated, as part of the National Credit Reforms. 

Executive Summary 

The provision of credit to small businesses can assist them to meet their start up, expansion or ongoing business cost requirements. A review of the sector suggests that the majority of small business lenders and brokers operate in a way that provides a valuable service to their borrowers. However, some practices exist in the industry that can result in high levels of financial losses to individual small business borrowers.

These practices primarily occur in relation to ‘distressed’ small business borrowers, that is, borrowers who are in a position where they are seeking funds urgently to keep their business afloat (rather than, for example, wanting credit to expand their business). The most common scenario is where the business has defaulted in the repayments under an existing loan, and that lender has either commenced enforcement action or is threatening to do so.

The current legislative framework does not adequately address these practices. The possibility of enforcement activity by the Australian Securities and Investments Commission (ASIC) that would comprehensively address is subject to limitations including a combination of regulatory and enforcement gaps and the prohibitive cost and inefficiency of enforcement action. There are also substantial barriers to recovering compensable losses, both in actions taken by ASIC and by consumers in their own right.

It is recognised that small businesses cannot be absolved of all responsibility for their financial and business decisions, and a balance should be reached between protecting the most vulnerable and allowing the market to price risk. To achieve this balance, it is proposed to introduce targeted regulation which will minimise as far as possible the impact on lenders who are not engaging in these practices.

Targeted regulation would be introduced through a negative licensing scheme, improved disclosure requirements, universal access to external dispute resolution (EDR) and the introduction of a remedy for asset-stripping conduct. This approach is influenced by the extent to which lenders and brokers are largely already members of an EDR scheme and also hold an Australian credit licence (limiting the impact on these persons).

Were this not the case a different approach would need to be considered. These reforms will improve ASIC’s supervision and enforcement ability and give ASIC the ability to exclude entities from the market in the event of severe misconduct. They will also assist consumers by giving them access to more affordable dispute resolution, and result in improved understanding of the loan contract in some cases. 

The reforms are not expected to comprehensively address this type of misconduct in the small business lending market, but are expected to have a deterrent effect on some lenders. Borrowers will have improved access to compensation if misconduct occurs, and ASIC will have improved ability to identify and exclude lenders where, for example, they demonstrate a continued reluctance to comply with the law. 

It is difficult to quantify the cost to industry and the benefits to borrowers (and there is difficulty in observing and quantifying any flow on consequences), and it is not possible to state definitively whether or not this reform would have a net benefit in monetary terms. Costs to all small business lenders will include one off implementation costs to change disclosure procedures and modify other practices to address regulatory risk. Most lenders would not need to make substantial changes as they are already complying with, or are in a position to readily comply with the reforms. Nevertheless, the reforms propose addressing this conduct in a way that may have impacts on all borrowers, primarily through the risk of higher costs or some lenders exiting the market. 

Overall, it is considered the reforms balance the need to protect borrowers while minimising as far as possible the costs to industry, and have the potential to reduce significant losses to individual businesses. 
 

Why Government needs to get involved in fixing business lending

Interesting views from a notable economist, Joseph Stiglizt, in promoting his book, Freefall: 

I believe that markets lie at the heart of every successful economy but that markets do not work well on their own. In this sense, I'm in the tradition of the celebrated British economist John Maynard Keynes, whose influence towers over the study of modern economics.

Government needs to play a role, and not just in rescuing the economy when markets fail and in regulating markets to prevent the kinds of failures we have just experienced. Economies need a balance between the role of markets and the role of government – with important contributions by non-market and non-governmental institutions. In the last 25 years, America lost that balance, and it pushed its unbalanced perspective on countries around the world.

We should take this moment as one of reckoning and reflection, of thinking about what kind of society we would like to have, and ask ourselves: are we creating an economy that is helping us achieve those aspirations?

We now have the opportunity to create a new financial system that will do what human beings need a financial system to do; to create a new economic system that will create meaningful jobs, decent work for all those who want it, one in which the divide between the 'haves' and 'have-nots' is narrowing, rather than widening; and, most importantly of all, to create a new society in which each individual is able to fulfill his aspirations and live up to his potential, in which we have created citizens who live up to shared ideals and values, in which we have created a community that treats our planet with the respect that in the long run it will surely demand. These are the opportunities. The real danger now is that we will not seize them. 

 

image.jpg

2 actions that Government can take to accelerate business growth

Yesterday, Australia saw the establishment of a government advisory panel on Fintech and the launch of a reform manifesto by Fintech Australia which we support.

We strongly believe that Government needs to become bolder in addressing market failure in providing our small-mid sized businesses with access to growth capital.

Here are two steps that could be taken this year:

  1. Build awareness of alternative financing options for SMEs to address market failure
    eg a mandatory referral obligation for banks declining credit applications
     
  2. Set up a Business Bank to: 
    • consolidate existing government funding mechanisms for SMEs in one place; and
    • provide modest co-investment support and endorsement for Alternative Finance providers

Working capital is the main impediment to growth, not equity.

Service businesses need working capital to grow and the current Basel III banking system cannot help in a meaningful way.

This is particularly true in the case of our critically important mid-sized companies:

Grant Thornton, December 2015:

According to the firm, mid-size business injects a combined annual turnover of $1.1 trillion into the Australia economy; contributing a further $241 billion through wages and salaries, employing more than 3.7 million Australians in the process.

Background

There are interesting overseas examples, particularly in the UK.

ACCESS TO FINANCE - FREE UP ALTERNATIVE FINANCE

The UK's major lenders will soon be required to share the financial information that they keep on small business to give these companies the best chance of securing loans.

The Government plans to force the banks to share their SME credit information with other lenders and to offer to share the details of SMEs rejected for a loan with online platforms that can match them to alternative finance providers.

The British Business Bank has also been tasked with "increasing and diversifying" the supply of finance available to SMEs. The Bank will facilitate up to £10bn of finance by 2019, according to new forecasts.

 

 

CONTEXT - MARCH 2014

At present the largest four banks in the UK account for over 80% of UK SMEs’ main banking relationships. Many SMEs only approach the largest banks when seeking finance. Although a large number of these applications are rejected - in the case of first time SME borrowers the rejection rate is around 50% - a proportion of these are viable and are rejected simply because they don’t meet the risk profiles of the largest banks. There are often challenger banks and alternative finance providers with different business models that may be willing to lend to these SMEs.

Although the largest banks will sometimes refer these SMEs on (e.g. to brokers), in many cases challenger banks and other providers of finance are unable to offer finance as they are not aware of their existence and the SMEs are not aware of the existence of these alternative sources of finance. This is a market failure, of imperfect information, resulting in SMEs that are viable loan propositions not receiving the finance they need.

Grant Thornton leads calls for mid-size business minister - we totally agree. Critical driver of growth.

Good article in Accountants Daily. We think this sector deserves special attention, particularly given the declining appetite of banks to lend to businesses. We write about this subject a great deal and will keep writing!

The government can support the growth of its most powerful sector; Australian mid-size business, by establishing a Minister for Mid-Sized Business, according to the CEO of prominent mid-tier firm Grant Thornton.

Greg Keith, Grant Thornton Australia CEO, has led the push for the establishment of a Minister for Mid-Size Business in an attempt to bolster the middle market.

According to the firm, mid-size business injects a combined annual turnover of $1.1 trillion into the Australia economy; contributing a further $241 billion through wages and salaries, employing more than 3.7 million Australians in the process.

“As the engine room of our economy, we urge the Turnbull Government to incentivise mid-sized business. It’s time to appoint a Minister dedicated to fostering the growth needs of the sector and in turn boosting revenue growth for the Australian economy,” Mr Keith said.

“Despite their importance to the economy, mid-sized businesses are under-represented in the national debate. A Mid-Sized Business Minister is needed to develop specific incentive schemes to encourage growth and confidence where it will have the greatest impact,” he added.

Mr Keith also urged the government to establish a Strategic Development Fund, in the hopes of assisting mid-size business to break into the Asia Pacific market.
“This is an important initiative to encourage mid-size businesses to seek new revenue opportunities,” said Mr Keith.

In addition to initiatives to drive forward the mid-sized agenda, Mr Keith suggested that the concessions implemented for small business should be echoed for their mid-sized counterparts; such as a reduction in the company tax rate to 28.5 per cent and the immediate write off of new assets up to $20,000.”

“We would also like to see the Government extend some of its small business incentives to the more developed – and more likely to succeed – mid-size businesses, by extending the concessions to currently provided only to small companies.”

Why SME lending doesn't make sense for our banks, according to the RBA

It's time that our banks started to be upfront about lending to small businesses. It doesn't make any sense for them and they only do it to access cheap deposits.

The Reserve Bank of Australia issued an interesting report in October 2015, the main focus being on leveling the playing field in residential mortgages between the Big 5 banks and the smaller ones.

However, it also succinctly highlighted why SME lending is so unattractive for our banks. They need 4 times more of their own capital to lend to a small business than the amount required to advance a residential mortgage loan. Add in the costs of dealing with the complexity of business lending and it is clear why it is such an unattractive business for them.

And with the looming regulatory capital changes ahead, SME lending is going to become a lot less attractive: up to 10 times less in fact.

Thankfully, the Alternative Finance market is now developing but, if not actively supported by our policy-makers,  it will take too much time to plug the gap that really needs filling now, not in 5 years time.

Let's hope Canberra is on to this.

 

Interesting to contrast UK and US SME growth initiatives with ours - we need to take much bolder steps

tiny-steps
tiny-steps

UK Budget 2015

  • Corporation tax rate falling from 20% to 18% by 2020
  • Banks compelled to refer declined customers to alternative finance providers and share information
  • Government-backed Business Bank to facilitate up to $20bn of finance by 2019
  • $400k annual investment allowance
  • Enterprise Zones

US Small Business Administration

Created in 1953 as an independent agency of the federal government, its number one strategic goal is “growing businesses and creating jobs” and its second goal is to “serve as the voice for small business”.

The major tools employed by the SBA are a range of financial assistance programs for small businesses that may have trouble qualifying for a traditional bank loan. The biggest program is the 7(a) Loan Guarantee which guarantees as much as 85 per cent of loans up to $150k and 75 per cent of loans of more than $150k. The maximum loan SBA guarantees is $5m.

Loan terms can last up to 25 years for real estate, up to 10 years for equipment and up to seven years for working capital. The SBA limits the maximum interest rate banks can charge to no more than 2.75 per cent on top of the Prime Rate (currently 3.25 per cent). In addition, the SBA charges a guarantee fee ranging between 2 per cent and 3.75 per cent. So all up a small business would pay between 7.5 per cent and 9.5 per cent.

In 2015 the SBA approved 63,461 7(a) loans for a sum of $23.58b at an average of $371k. The total of all loans guaranteed was $111.769b with a bad debt rate (called charged off) of less than 1 per cent.

Australia

Budget 2015

We want to ensure Australia is the best place to start and grow a business. The best way to create jobs is to build a strong, prosperous economy that encourages business confidence:

  • Accelerated depreciation allowance of $20k (this is just a timing difference in when tax is payable and where do you find the capital anyway?)
  • Company tax rate for businesses with up to $2m of turnover will be reduced by 1.5 percentage points to 28.5 per cent

National Innovation and Science Agenda, December 2015

  • Tax breaks for angel investors
    The government will offer tax incentives for investors in startups including a 20% tax offset based on the amount of their investment capped at A$200,000 per investor, per year. There will also be a 10 year capital gains tax exemption for investments held for three years. This will apply to businesses have expenditure less than $1 million and income less than $200,000 in the previous income year.
  • Equity crowdfunding
    The government will introduce new laws to enable crowdsourced equity funding of public companies with a turnover and gross assets of less than A$5 million. Investments will be limited to a maximum amount of $10,000 per company, per year.

Why do growing companies fail?

Most growing companies in Australia are starved of cash, constantly running the gauntlet of paying payroll and keeping the Australian Tax Office and other creditors at bay. Why?

The insolvency statistics published by ASIC tell a sorry tale. In the latest report covering the 2013-14 financial year, 9,459 initial external administrator reports were filed with 22,606 nominated reasons for failure. The reasons given break down as follows:

Company failures FY14
Company failures FY14

So according to ASIC, at least 30% of companies in Australia failed during the 2013-14 financial year due to cashflow issues.

In our experience and speaking to experts, most growing businesses underestimate how much permanent capital they need to raise to fund their growing book of unpaid sales invoices.

Rapid growth and the extra demands it places on working capital usually puts businesses under cash flow pressure. It's mathematically certain unless you're in a business where your customers pre-pay for what you sell them!

In some cases businesses struggle through, in others they fall over in the growth phase. It is important to understand that you cannot grow without planning on how you will fund the growth. Generating profits to fund it on your own will take too long.

Before aiming for growth in your business, you need to understand and address several issues, including:

  • Cash flow optimisation - very important in the short and long term. You need to understand:
    • Your cash flow cycle
    • The demands of extra trading stock
    • The impact of increasing debtors
    • The effect and timing of your basic operating costs.
    • Cash flow forecasting - essential for any well run business, this involves developing realistic projections for your operational budgets. Sensitivity analysis will help you forecast the impact of errors (10%, 20% or 30%) in your assumptions.
    • Capital management - start by identifying how much capital the business needs and how much is being provided by the available sources. Your business is only funded from capital, debt, and retained profits and in the early days of the business there are no retained profits, so it comes down to capital and debt.

From the start there is a continuing requirement for capital management. This is about understanding:

  • The initial requirements or establishment costs of the business
  • Additional capital that will be required to fund growth
  • The timing and amount required to replace or upgrade capital equipment
  • Funding required to repay loans and retire debt
  • Taxation requirements
  • The expectations of the shareholders for access to profits

None of these items appear in the operating budgets of your business, yet each of these draw cash from the business. You could have a profitable business and be cash flow positive from operations, yet be under significant cash flow pressure. If you want to grow your business successfully, then a capital management plan must be regularly reviewed and a capital expenditure budget should be prepared each year.

Our Growth Check-Up Tool highlights how much more cash becomes tied up in your invoices as you grow - cash that you will need to pay suppliers and cover other operating costs.