Growth capital

Businesses are scared of banks, by George


Alan Kohler

Editor-at-large, ABR


An interesting, and important, comment appeared at the bottom of my piece yesterday about deflation and central banks, which is worth republishing in full.

It was from someone named George:

“As an owner of a number of businesses across a range of sectors (including manufacturing) I can provide some perspective on the efficacy of interest rate reductions on our propensity and willingness to invest — in short, it has little or no impact.

“By far the biggest determinant is sentiment, or attitude to risk in other words. And by far the biggest factor in this is the attitude of the banks — not just whether they say yes or no to a deal, but the perception of how they might respond or act if something were not to go quite to plan.

“It is really quite clear that the banks are not really keen or interested in business, particularly the SME space. They pay lip service to it and purport to be active and keen, but the reality is that they are doing this because it is expected of them, and to show their true colours would be very bad PR. So they instead play the game of being present, but not really being active in the SME space.

“All my businesses are sound, profitable and cash-generative. Despite this, I get the distinct impression that if I said to my bank that I was moving elsewhere they would act disappointed, but corporately they would be glad — as it would free up their capital to lend on property.

“In a real sense I don’t blame the banks, they are just acting rationally in order to get the best returns.

“The Reserve Bank only really has a single tool — interest rates — with which to try to control the economy/growth/inflation. The effectiveness of this tool has been blunted almost to the point of being useless (other than fuelling or retarding the property market).

“So it’s really down to the government and the banking regulators to intervene to modify the economic rationale under which banks operate. In the absence of this, the SME sector will have to continue to operate ultra-defensively because we just don’t know what’s round the corner, but we do know that the banks may not be our friend if what is round the corner turns out to be difficult.”

I tried to contact George to hear more of his experiences, but to no avail (yet).

The reason I thought his comment was important is that it contradicts what the banks say, tells us why monetary policy is quite useless and accords with what I’ve been hearing from small to medium businesses myself about the banks’ attitudes, and which I wrote about last month.

But George took it one step further: he says, in effect, that SMEs are scared of borrowing from banks because if things go badly, “the banks may not be our friend”.

In other words, banks don’t want to lend to businesses and businesses don’t want to borrow from banks for fear of what they might do. In a nation whose finance sector is dominated by four banks, that’s a recipe for stagnation at best.

Yesterday KPMG published its annual review of the big four banks’ results and included figures on their profits and return on equity. In the past decade they have tripled pre-tax profit but ROE has declined from 18 per cent to 15 per cent.

And as KPMG commented, this downtrend is likely to continue as the banks continue to increase their capital levels in the years ahead.

The lower risk weighting of real estate mortgages virtually forces banks to focus their lending on this and to steer away from business lending.

This is possibly the single greatest problem facing the Australian economy right now, and nothing the Reserve Bank does today, or next month, will change that.

As George says, cutting rates will be useless unless the banks lend to businesses, but they can’t do that because they are caught between the regulator’s demand for more capital and the market’s demand for more ROE.

KPMG highlighted other challenges facing the banks as well, specifically “we have likely seen the bottom of the credit loss cycle, and the trend in lending losses is now on an upward trend”, and the fact “customer behaviour and competitive dynamics (are) continuing to rapidly evolve, driven by demographic changes, the digital revolution and the rise of fintech competition”.

With bad and doubtful debt provisions increasing at the same time as the fintech revolution increases competition at the same time as capital has to be increased, Australian bank executives are facing the most challenging time since the recession of the early ‘90s.

They really are in no state of mind for the complications and risks of small business lending. Big syndicates, yes, and real estate mortgages for sure, but a cash flow loan to help a small business over a hump? Forget it.

It’s against that background that the RBA is apparently thinking of cutting interest rates again, if not today then next month or the month after (the market is pricing in a 120 per cent probably of a rate cut by February).

It will make no difference to anything.

The housing cycle has turned, thanks to APRA’s clamp on investor lending. So even if the RBA wanted to encourage more property speculation, which it doesn’t, it wouldn’t happen.

Banks aren’t lending to businesses anyway, and even if they do, George says the businesses are too scared to borrow because of what the bank will do if something goes wrong.

Why the banks just want our houses - Alan Kohler nails it


A funny thing happened to business lending on the way from the GFC.

Australia’s banks turned into giant building societies, lending almost exclusively against residential property and rarely, if ever, making unsecured loans to businesses or people any more.

If someone asks for a business or personal loan these days, the banker asks for the house.

The result is that traditional small business lending has dried up, and with it business investment, while Australia has the highest ratio of household debt to GDP (134 per cent) in the world, since business owners have to borrow against their houses.

And, by the way, the upward pressure on values from banks has probably contributed to the over-pricing of Australian real estate.

As a result of a combination of the “risk-weighted assets” system and the credit crisis, banks have basically withdrawn from the thing they were set up to do: facilitate commerce.

For the big four banks, only 16 per cent, on average, of a real estate mortgage is counted when measuring the bank’s capital ratio. This is rising to 25 per cent next year.

But every dollar of an unsecured personal and business loans counts against capital and in some cases the risk weighting is 150 per cent.

Capital -- that is, the bank owners’  money -- has to be 8 per cent of assets, although mostly it’s around 10 per cent. That is, the ratio of owners money to other peoples’ money has to be no greater than 12.5 to 1 and is usually 10 to 1. The result is that for every dollar of capital, the big four banks can choose to lend $62.50 secured against real estate or $10 unsecured.

Guess what happens? It’s only natural and totally understandable. It’s true that interest rates on personal and business loans can be three times what the banks make on residential mortgages, but that still doesn’t make up the revenue.

And in any case, these days the banks are all about volume and market share.

In a way, the increase in the risk weightings of residential mortgages next year, from 16 to 25 per cent (of the asset counted against capital), imposed by the Australian Prudential Regulatory Authority and due to start from July 1 next year, will only exacerbate the problem.

That’s because analysts reckon the banks will need to raise about $24 billion in precious, expensive, new capital, which they have already started doing -- including Thursday’s sale by ANZ of Esanda for $8 billion.

They will be loath to waste it on loans that count dollar for dollar against that new capital, and will be even more inclined to focus on real estate.

And by the way, the big banks might have to increase the risk weighting of their real estate mortgages to 25 per cent, but the smaller banks and non-bank authorised deposit-taking institutions are at 35 per cent for the same assets.

Why are the big ones favoured like that? Because they practice something called 'advanced modelling', which APRA says involves superior risk management systems.

But that represents a built-in regulatory bias towards the banking oligopoly in Australia, and makes it much harder for the smaller players to take market share off them because their interest rates have to be higher to pay for the capital.

But leaving aside that little glitch, the system of risk-weighting assets was a wonderful development for the banks when the Basel Committee invented it in 1988 -- for the simple reason that it increased the assets that banks were allowed to hold for the same amount of capital.

You see, the Basel Committee didn’t decide that the weighting of secured loans should kept at a dollar for dollar and unsecured loans’ weightings increased, so banks had to cut back on them.

Oh no, secured loan weightings were reduced to less than a sixth of their real value, and unsecured loans were kept at 100 per cent, as all loans always had been.

It was just another step in the centuries long march of banks from lending only their owners’ capital to merchants on the security of nothing more than promissory notes to being highly geared (effectively lending $60 for every $1 of capital), highly profitable lenders of others peoples’ money against real estate.

Banking developed in Italy in the 13th century from the practice of issuing bills of exchange to facilitate trade.

The merchants of Venice had begun to deposit their surplus cash from doing deals with the moneychangers, who lent it on to those who were temporarily short.

Around 1800, bank capital was down to 50 per cent of assets because of the pressure on bankers to finance the wars of their sovereigns. By the end of the 19th century, bank capital, after another 100 years of wars, it was 20 per cent. There was, of course, no such thing as risk weightings; a loan was a loan.

Following the invention of central banking after the 1907 Knickerbocker Trust collapse, banks were allowed to hold less and less capital until, in the late 1980s, they hit more or less rock bottom at less than 5 per cent.

That’s when someone hit on the brilliant idea of letting them notionally reduce the value of secured loans when measuring the capital: the result was continued the process of lowering the capital – in other words increasing the gearing and therefore profits – but this time without seeming to.

The ratio of capital to assets stayed the same! It’s just that credit assets magically shrank if they were secured against land.

Fast forward to 2015, and the banks are under pressure to increase their capital because … well, they lost it all in 2008. Sorry everyone. The Australian banks didn’t lose theirs, but the rules are global now so one in, all in.

The pressure to increase capital, combined with the system of risk weightings, has fundamentally changed the nature of banking.

No longer is the credit risk assessor paramount within the bank; now the real estate valuer is king or queen. All that matters to a bank’s solvency is the LVR (loan to value ratio) not the credit score of the borrower, and the key unknown is the value.

Banks are no longer very interested in credit-worthiness, or in establishing the sustainability of small business’s cash flow. They just want the security of the entrepreneur’s house.

The result, apart from the well-documented dearth of business investment in Australia, is that two new industries are now beginning to flourish in Australia: non-bank lenders focusing on the personal loan and small business sector and venture capital.

Increasingly, entrepreneurs are being forced to raise equity capital to fund their working capital, in the absence of either a business loan or an overdraft, which means selling part of their businesses.

And that is expensive capital, both in the returns that the venture capitalists expect and in the emotional wrench of equity dilution.

So the shifts in bank regulation -- more capital and the risk weighting of assets -- is actually having a profound effect on the way business itself is conducted.

And the growth of peer to peer lenders like Society One, Ratesetters and ThinCats (in which I am a small investor) is a direct consequence of the banks withdrawal from unsecured lending.

There are others, like the listed DirectMoney which uses a unit trust structure, and Investors Central, which issues preference shares to fund car loans through a subsidiary, Finance One.

Perhaps at some point the banks will decide to get back into personal and business lending, and mop these new smaller players up, but for moment they’re munching on the banks’ unsecured lunch.

Great insights from Christopher Joye on how banking works in Australia - building societies not banks - ABC Lateline


Great insights on ABC Lateline from Christopher Joye on how banking works in Australia. However, we don't share his optimism that banks will be incentivised to lend more to Australian businesses as:

(1) there is still a massive gap in terms of the amount of leverage banks can use with mortgages (50x) versus cashflow lending to business (13x); and

(2) in any event, banks do not have the enough skilled staff or tools to lend to businesses without mortgage backing.

See also Alan Kohler's brilliant article which explains that banks only want our houses.


This part of the interview nails the point about leverage:

CHRISTOPHER JOYE: Yeah. I think what we're going to see is a radical reshaping of competition in the banking sector through these capital changes.

It's very complicated but the short story is that the four major banks have been able to carry twice the leverage and generate twice the returns for every dollar of home loans they make than their competitors: that is, the regional banks.

And Murray is going to level that competitive playing field so everyone will carry roughly the same capital and roughly the same leverage and therefore generate roughly the same returns.

So I think you will see the majors' market share fall in home loan lending. They will be pushed into more business lending and that's good, because business probably need more capital and lower-cost capital. And you're going to see the regional banks rise as more prominent home loan lenders.

EMMA ALBERICI: Because up to now the banks have been able to have much more debt on their balance sheet and now they won't be able to?

CHRISTOPHER JOYE: Yeah, correct. I mean, the numbers are staggering: Westpac's home loan book according to its own numbers was leveraged some 77 times, which means it only held 1.3 per cent of capital, or $1.30 of capital for every $100 worth of loans it was making. And that advantage was unassailable and impossible to compete against if you're a Bendigo or a Bank of Queensland or a Suncorp. So we're going to see...


Emma Alberici speaks with Christopher Joye and David Uren for their take on the Government's response to the Murray financial systems inquiry. 

Full Transcript

EMMA ALBERICI, PRESENTER: Now for a more detailed look at the Government's response to the Murray inquiry, I'm joined by Christopher Joye here in Sydney, columnist for the Australian Financial Review and economist, and in our Canberra studio the economics editor of the Australian, David Uren.

Gentlemen, welcome.



EMMA ALBERICI: Now, the Government wants to crack down on merchants who charge excessive credit card surcharges. Christopher Joye, what's considered excessive?

CHRISTOPHER JOYE: Well, anything that's above the reasonable costs associated with a transaction, which is obviously going to be difficult to enforce because I don't think anyone really knows precisely what reasonable costs are.

EMMA ALBERICI: David Uren, Treasurer Scott Morrison said that credit card surcharges would have to pass the "fair dinkum" test. What does that even mean?

DAVID UREN (laughs): Well, I don't know. I mean, I think people obviously recent having to pay 1.5 per cent when they do just a store transaction, much as the same way as people will often recent having to pay a couple of bucks to use an ATM.

I think they'll probably struggle to find a method of legislating or regulating that pleases everybody, but I think they're clearly serving notice to the industry that fees will have to come down.

EMMA ALBERICI: Christopher Joye, as you just pointed out, enforcement will be nigh impossible, won't it, when you've got hundreds of thousands of businesses charging these surcharges?

CHRISTOPHER JOYE: Yeah, I think that's right. And as David said, I think evaluating what reasonable costs are is going to be an inherently difficult exercise. And then you've got small business highly fractured and decentralised. So that enforcement question is a big one.

EMMA ALBERICI: OK. Now, the banks will be required to hold more capital in reserves so they can better withstand financial shocks. Presumably it's the banks' customers who are going to have to pay for this, David Uren?

DAVID UREN: Well, Westpac has partly shown that it's prepared to put some of the cost onto customers. It's not entirely clear.

I mean, strictly speaking, if the banks are made safer by having more capital, well then, the cost for those banks of raising deposits should also fall. So it's not actually, you know, demonstrably true that raising more capital automatically pushes up their costs. The banks argue that it will.

I think it's interesting that so far the other three major banks that have raised capital to please APRA's capital demands have not increased interest rates - or, at least, not to the home borrowers. So, you know, I think Westpac did take a step away from the rest of the pack last week.

EMMA ALBERICI: But Westpac, Christopher Joye, did use this as the excuse for raising interest rates?

CHRISTOPHER JOYE: Yeah. And to be clear: we have seen substantial increases in interest rates on investment loans by about 0.2 percentage points and Westpac's now applied that to owner/occupied loans.

I think the question is whether the banks feel they can get away with it. To date they have been able to. I don't think there's any doubt we're going to see further rate increases one way or the other. If the RBA cuts rates, they probably won't pass on the full extent of that cut.

And the banks want to have their cake and eat it. They want to pass on the cost to consumers and protect their shareholders and not dilute the returns to those shareholders.

But David is right: more capital and less leverage means they're safer and, in theory, the cost of their funding should be lower. And we've seen sometimes in the bond market over the last three to six months reductions in the cost of that funding for the banks on the back of perceptions that they will be safer concerns.

EMMA ALBERICI: What will this do to the banking system more generally, this capital requirement? Will it generally make it safer? Because most people would assume that in the event of some kind of crises, as we saw in 2008-2009, the Government steps in anyway, David Uren?

DAVID UREN: Well, I think a lot of the regulation that has taken place since the Global Financial Crisis has been designed precisely to reduce the likelihood that Government will be called.

It helps to have a larger safety margin when things turn nasty and losses mount, but it's probably also the case that if you look, say, at the US subprime crisis, there was probably no bank that failed during the US subprime crisis that would have been saved had another per cent or two of capital in its reserves.

I think when things go wrong in a financial institution, they tend to go wrong in a big way through very bad lending practices across the board. Fortunately we're not seeing that. It's a margin of insurance but, you know, it's probably not really a life and death matter.

EMMA ALBERICI: Christopher Joye?

CHRISTOPHER JOYE: Yeah. I think what we're going to see is a radical reshaping of competition in the banking sector through these capital changes.

It's very complicated but the short story is that the four major banks have been able to carry twice the leverage and generate twice the returns for every dollar of home loans they make than their competitors: that is, the regional banks.

And Murray is going to level that competitive playing field so everyone will carry roughly the same capital and roughly the same leverage and therefore generate roughly the same returns.

So I think you will see the majors' market share fall in home loan lending. They will be pushed into more business lending and that's good, because business probably need more capital and lower-cost capital. And you're going to see the regional banks rise as more prominent home loan lenders.

EMMA ALBERICI: Because up to now the banks have been able to have much more debt on their balance sheet and now they won't be able to?

CHRISTOPHER JOYE: Yeah, correct. I mean, the numbers are staggering: Westpac's home loan book according to its own numbers was leveraged some 77 times, which means it only held 1.3 per cent of capital, or $1.30 of capital for every $100 worth of loans it was making. And that advantage was unassailable and impossible to compete against if you're a Bendigo or a Bank of Queensland or a Suncorp. So we're going to see...

EMMA ALBERICI: Because there's a general assumption, I think, that if you have this much in deposits then that's how much you lend. But of course that's not the case.

CHRISTOPHER JOYE: Yeah, and that's not the case. And so we're going to see real convergence in returns and I think the Australian banking system in 10 to 15 years' time will look very different as a result of these changes.

EMMA ALBERICI: How significant is the change, do you think, David Uren?

DAVID UREN: Look, I mean, I think that to a certain extent the changes we've already seen - those that Christopher's talking about, which are designed to level the competitive landscape with the smaller banks - they will produce shifts in market share.

I think, though, that one of the things that's still an open question is how much more capital the banks will be required. And really, the Government's response to the Murray inquiry gives APRA a carte blanche to say, well, how much capital it does need.

And I think it's... really, it's the incremental capital that we might see APRA demanding as time goes by that, you know, will also be quite a significant factor in terms of the weight of capital that the banks have to carry.

EMMA ALBERICI: Chris, to the question I asked David earlier, I mean about the too big to fail issue: the governments of whichever persuasion, as the Rudd government did during the Financial Crisis: they're not going to let one of the big four collapse?

CHRISTOPHER JOYE: I mean, this is 100 per cent correct. I've spoken to regulators about this. Privately they say they will not let not just the big four fail but literally almost any bank fail.

But the financial system inquiry was fascinating on this point. They made the observation that, based on the capital the banks held in June last year, if we had had the sorts of movements in house prices and other asset prices that we saw in North America and Europe during the Global Financial Crisis, "the four major banks would have been insolvent".

So they are clearly short capital. My numbers are: they probably over the next three to four years need to raise another $20 billion to $33 billion worth of capital. It's actually not that much and it's a very manageable task. And we have now government-guaranteed deposits. They have access to emergency liquidity or loans from the RBA currently worth $250 billion. So these are explicitly government-backed institutions.

DAVID UREN: Just to sort of follow on Christopher's point: that during the heart of the Global Financial Crisis, many hours of Cabinet time, of treasurer's time and of Treasury secretary's time was spent trying to work out ways to ensure that Members Equity Bank, the smallest bank, I think, in Australia, didn't get into trouble because securitisation markets had folded. And I think Ken Henry made the point after that crisis that, in the thick of the drama, there's almost no bank that is too small to be allowed to fail.

CHRISTOPHER JOYE: Yeah, that's right.

EMMA ALBERICI: OK. So on superannuation, the Murray inquiry had recommended that super funds shouldn't be allowed to borrow money to invest. Curiously, the Turnbull Government has disagreed with that recommendation.


EMMA ALBERICI: And if making the system safer was the objective, this seems like an anomaly, doesn't it?

CHRISTOPHER JOYE: It's a really, really interesting subject because within the $700 billion of self-managed super, lots of people have bank stocks and the banks are leveraged 24 times currently. So that's actually a leveraged equity investment that has no recourse to the borrower. If the bank defaults on the debt, they don't claim your self-managed super money, right?

EMMA ALBERICI: It just makes - and to translate what you've just said: that makes super more risky? (Laughs)

CHRISTOPHER JOYE: Correct. And so the notion of having further leverage inside SMSFs was obviously rejected by Murray, but that recommendation hasn't been accepted by the Government. I think the important consequence of that...

EMMA ALBERICI: I think his recommendation was across the superannuation industry that no super fund should be allowed to borrow to invest?

CHRISTOPHER JOYE: Well that's right and that is the general principle and there was an exception for non-recourse loans.

But I think this is very important because of the $700 billion in SMSFs, only five per cent or thereabouts is currently invested in residential properties and associated mortgages. And that is a tremendous growth opportunity for the banking sector.

So if the home loan market in owner/occupied sectors and investment sectors starts to slow down, they can potentially drive tremendous credit creation through providing non-recourse loans - they must be non-recourse - to SMSFs.

And the problem with a non-recourse loan is: it sounds very similar to a subprime loan in the US, which used to be called "jingle mail" because the lender had no recourse to the borrower beyond the asset itself, so they could just leave the keys in the house and walk away.

EMMA ALBERICI: David Uren, the final report said, "Direct borrowing by super funds could impose risks if allowed to grow at higher rates." Why you think the Government has ignored the recommendation that that should stop?

DAVID UREN: Well, I think that there would be a large number of Liberal Party voters who would have self-managed super funds. So, you know, I think the self-managed super fund industry has developed over a relatively short space of time quite a deal of political clout. So I have no doubt that that's a factor.

But I think also they probably... Well, you know, there's a tension there. The Reserve Bank has clearly been calling for regulation on borrowing and self-managed super funds. The Reserve Bank has been quite concerned about it. But clearly the Government has taken an alternate view that, as yet, the magnitude of borrowing is not that large in the overall scheme of the SMSF assets.

EMMA ALBERICI: OK. We're almost out of time, but just finally: the Government is now shaping legislation that will define the purpose of superannuation. Is there any doubt what it's for? Isn't it for retirement savings, Christopher Joye?

CHRISTOPHER JOYE: Absolutely. I mean, the purpose of super is to provide for adequate retirement incomes. But I think the concern is that, under the remit of super, product manufacturers have been able to develop products that may not serve necessarily the interest of retirees. And so they want to get greater definition around the role of super funds and their trustees and the sorts of investments they should be making.

One of the key criticisms of public offer or large super funds in Australia has been that they're very exposed to risky asset classes. On average, about 77 per cent of all super fund money within public offer funds is invested in equities, which is the most volatile asset class.

And with an ageing population, you know, folks want to question that decision-making process. So I don't think that's an unreasonable ambition.


DAVID UREN: Well, I think a criticism was made, has been made of the super industry that it is there for retirement, it's not there for estate planning. And I think that in an appendix of the Murray inquiry there's discussion about distortions in the tax system bearing upon superannuation.

And I think that some of that focus around being really sharp about what the actual purpose of super is: once you clarify that, it then becomes more possible to look at some of the tax implications which thus far, of course, the Government has been a little bit reluctant to approach.

EMMA ALBERICI: We're out of time, thank you both so much.

DAVID UREN: A pleasure.


UK Alternate Finance volumes hit record breaking £746.4m ($1.5bn) lent in last quarter - more than whole of 2013!

A Record Breaking End to a Record Breaking Quarter

By Sam Griffiths on 20th October 2015

Origination volumes for the Liberum AltFi Volume Index in the month of September were £274.9m. This was a record breaking end to a record breaking quarter that saw £746.4m of finance originated by the UK Alternative Finance sector. To put this into context, this quarterly origination total surpasses the total origination of the sector for the whole of 2013 which stood at £652m.

The chart below shows that the industry has resumed its growth trajectory after a quieter month of August. Six platforms posted record monthly lending figures including each of the top three.



Zopa originated the most of any platform, posting £58.3m and setting a new industry record in the process. September was the third consecutive month that Zopa has topped the origination tables. We have previously identified that the major driver in Zopa’s recent growth has been institutionally funded loans. September was no exception with 63% of loans being funded by institutions.

Funding Circle took second spot with £53.6m of lending, bettering their previous biggest month by over £6m and lending over £50m in a month for the first time ever. Taking the final place on the podium this month was RateSetter, lending £47.5m, a new platform best by £4m. In the middle of the month RateSetter announced that institutions were once again lending through the platform and, whilst this was a modest amount (£800k) this month, we wait to see what impact it could have going forward.

Other platforms that posted record months were:

  • SavingStream with £16.1m lent
  • Landbay with £2.6m lent
  • Platform Black with £5.8m of invoices traded – a notable uptick in activity on recent months



Looking at the quarter as a whole:

  • Over half (59%) of the platforms within the Index reported record origination volumes.
  • The fastest growing sector was Equity Crowdfunding with 169% growth over the last 12 months.
  • The fastest growing lending sector was property backed lending which has exhibited 109% growth over the past 12 months.

Year to date lending for the sector stood at £1.97bn at the end of September. At the end of last year, we predicted that 2015 lending would be £2.85bn, with 3 months to run, the industry looks like it will come very close to that figure, indicating that it has stayed on its growth trajectory.


Time to fix the funding ladder - fill in the gaps in supply of long-term finance for growing businesses









The CBI, a leading UK industry peak body, and BDO, one of the leading global accountancy groups, have recently issued a report which is just as relevant for Australian businesses.

Here are the key points:

Long-term approach essential for growing firms’ funding

Offering tax incentives to savers who commit to providing long-term finance for medium-sized businesses (MSBs) would help growing firms realise their full potential, according to a new CBI/BDO report.

Stepping up: fixing the funding ladder for MSBs (CBI Stepping Up report) recommends ways the Government can encourage long-term debt and equity investment in these firms. The ‘forgotten army’ of Britain’s businesses, MSBs represent just 1.8% of companies, but generate nearly a quarter of private sector revenue and make up 16% of total employment.

With over half of MSBs finding it hard to access a loan for longer than five years, the UK’s largest business group, together with the accountancy firm, BDO, are calling on the Government to better incentivise this type of funding by:

• Creating new funding vehicles – Long Term Lending Trusts – which offer income tax relief to savers investing in long-term MSB debt funding

• Changing the way the Enterprise Finance Guarantee works, by rewarding lenders for providing longer-term loans.

Sean Taylor, Co-Founder and Managing Director of Redwood Technologies, said:

Long-term finance is critical to the future of any growing firm, but the lack of it can make climbing up the growth ladder a tough task for many mid-sized businesses.

“These proposals are aimed at giving companies like ours a much needed leg up in reaching our full potential, at the same time as helping savers.

John Cridland, CBI Director-General, said:

Building up a British ‘mittelstand’ of successful medium-sized businesses is mission critical to our economic future. With little recognition, these firms quietly toil away, creating jobs in communities and boosting growth in every corner of the nation.

Savings“A key part of unlocking their enormous potential is for the Government to fix the funding ladder, filling in the gaps in supply of long-term finance that the UK’s brightest growing firms need to succeed.

“Incentivising savers to invest in our businesses for the long-run is a win win. It offers them attractive, alternative investment packages, while helping propel medium-sized businesses along their growth path, boosting the economy as a whole, and enhancing productivity.

John Gilligan, Partner at BDO UK, said:

Making the most of the UK mid-market is fundamental to creating a balanced and sustainable UK economy. But the UK lacks diversity in long term funding sources – particularly for mid-sized companies.

“We’re not trying to reinvent the wheel. Instead we’re suggesting an innovative adaptation of existing distribution channels. This is designed to allow new entrants to start up and flourish alongside current funding sources. The proposal also gives the people of Britain the opportunity to directly invest in long-term loan portfolios to the middle market in a regulated environment. Savers will have a new asset class to invest in and companies will be able to access the more patient capital that they tell us they need to grow.

With 70% of MSBs planning to grow in the next year, they will be central to improving the UK’s investment performance and driving productivity growth. To boost the ready supply of available growth capital, the report calls for:

A new financing vehicle – the Long Term Lending Trust (LTLT)

The LTLT would extend tax incentives to investors who are willing to commit to providing long-term debt, in a similar way to the successful Venture Capital Trust scheme, for at least five years. Targeting individual savers, it should offer:

  • A return based on yield, not capital gain
  • Income tax relief, with a deduction from income tax in the year of investment.

The LTLT – which would cost the Government only £310 million a year and could unlock billions of new long-term loans – would likely provide relatively high returns, whilst offering a strong degree of protection, being run by an investment professional.

Make the Enterprise Finance Guarantee incentivise long-term lending

The Enterprise Finance Guarantee supports bank loans of up to £1.2 million to MSBs, by guaranteeing up to 80% of the outstanding amount of the loan.

As the scheme evolves, it should be adapted to promote longer term loans. For example, the guarantee could be amended – progressively increasing as the term of the loan increases, with higher guarantees of capital repayments at a later date.

Other recommendations:

  • The Government should continue to actively promote the benefits that private placements have for British companies, boosting awareness and demand
  • Make the UK the best place to list on a growth equity market by allowing companies already listed on the London Stock Exchange’s AIM to raise more capital from existing investors without the need to produce a prospectus.
  • A Cross-departmental investigation of the UK’s enterprise tax framework to be at the heart of the Government’s ‘Business Tax Roadmap’, to see whether it can help boost the use of equity finance by growing businesses.

Link to the report


The invoice finance market is held back by unfair terms

Wrench-Money Over the last two years that we have been developing InvoiceX, we’ve spoken to many business owners that use invoice finance. Standards vary a great deal but every week we see some very unfair practices.

Businesses are locked into long contracts that they don’t understand with hidden fees that they’re not expecting. This needs to change.

Recently, we came across a business that wants to terminate its contract with a factoring company. The contract had 8 months to run. Termination fees were unclear. On enquiry, they were told that it would cost them over 10 times their usual monthly finance cost to terminate!

The smallprint also said that if the business did not give termination notice 3 months before the 12 month anniversary of the contract, it would automatically renew for another 12 months. This is not unusual. Luckily, we helped them escape.

We think that there are a number of basic requirements for invoice finance contracts which could easily be put in place to protect business owners:

1. All fees should be clearly listed upfront or at least in one easily found place/schedule in any contract. Every item that you can be charged for and the fee or charge needs to be made crystal clear.

2. No contract should be more than 12 months in length. 

3. All contracts should include clear termination provisions in one easily located place. The notice period and termination fee should be clearly listed in the contract. 

4. All contracts should have a maximum termination notice period of two months, ideally one month.

5. No termination fee should exceed two months’ minimum service fees, ideally one month.

These are not difficult conditions to apply. They would ensure businesses were not locked in to finance contracts that hold them back, and make sure they have better information on the cost of finance before making decisions.

Invoice finance is a great way to help businesses grow. It needs reform. It needs to be open, transparent and fair.

SME funder offers ‘compelling’ broker proposition - The Adviser

Wrench-Money A company that specialises in providing invoice funding for small to medium-sized businesses is looking to further engage the third-party channel with a new broker proposition.

Based in Tasmania, InvoiceX focuses on growing SMEs that trade with big businesses such as ASX-listed companies and government groups, with all transactions remaining confidential and its owners co-investing in every trade.

Steve Yannarakis, co-founder of InvoiceX, said the company is currently rolling out its Introducer Programme, which offers an upfront commission of 0.50 per cent (plus GST) for any successful introductions, to all brokers.

“The 0.50 per cent commission applies to invoices with a minimum upfront fee of $5,000 plus GST, and is paid once aggregate advances – which are at least equal to the initial credit limit – have been repaid in full,” he told The Adviser.

“We also offer a 0.40 per cent annual trail commission on the amount advanced, calculated and settled monthly. There are no limits on the amount or period for the trail, so if the company is in expansion mode, this can add up to a considerable income stream.

“Our broker proposition is, to our knowledge, the most compelling in the country.”

Mr Yannarakis said the process of opening an account with a new customer is “ridiculously fast”.

“We can provide a yes/no pre-approval over the phone in just minutes. After that, the account can be set up online in as little as 20 minutes,” he said.

“The broker only has to provide the introduction and we do the rest. Senior people are fully accessible to the broker to help explain how it works and what is involved. The broker does not have to deal with a call centre or fill out reams of paperwork, and the whole process is tracked online.”

Mr Yannarakis said InvoiceX has been working with brokers since forming just over two years ago, and believes they are central to the process of helping SMEs access finance efficiently and on fair terms.

“It is very often the case that residential mortgage brokers come across ambitious business owners wanting to grow. There are thousands of businesses around the country in need of growth capital,” he said.

“So if these businesses have exhausted their real estate security, don’t want to be associated with factoring and can’t or don’t want to relinquish equity, then what InvoiceX offers could be the ideal solution.”

The Adviser

Team Turnbull understands Fintech and it's potential to drive growth

afr Updated Sep 21 2015 at 12:15 AM

How Malcolm Turnbull and Lucy Turnbull will give fintech a boost

Malcolm and Lucy Turnbull understand the fintech opportunity.
Malcolm and Lucy Turnbull understand the fintech opportunity. Christopher Pearce

As Prime Minster Malcolm Turnbull announced his new ministry on Sunday afternoon, he said if Australia wants "to remain a prosperous, first world economy with a generous social welfare safety net, we must be more competitive, we must be more productive and, above all, we must be more innovative. We have to work more agilely, more innovatively, [and] we have to be more nimble in the way we seize the enormous opportunities that are presented to us."

His comments reiterated similar ones made last week after he dethroned Tony Abbott. Australia has to recognise "that the disruption that we see driven by technology, the volatility in change, is our friend if we are agile and smart enough to take advantage of it", Turnbull said, urging us to become "a nation that is agile, that is innovative, that is creative".

While Turnbull was talking about the economy broadly – and it remains to be seen whether the rhetoric will be backed with action – his comments were a symphony to the ears of both financial services incumbents and fintech disrupters. 

On Tuesday night last week, around 300 people gathered at the Tyro fintech hub in Sydney for a meet-up and there was a buzz in the room from the events in Canberra the day before. KPMG's global co-head of fintech and national head of banking Ian Pollari spoke with dozens of entrepreneurs that evening and says he received "universally positive feedback from the fintech community, who have welcomed the new Prime Minister's public recognition of the importance of embracing innovation and technology-led disruption". 

The big banks are on the same page. At a Trans-Tasman Business Circle lunch in Sydney on Wednesday, Westpac Banking Corp's chief executive, Brian Hartzer, was optimistic that a Turnbull-led government understood the potential for technological disruption to be employed as a driver of growth and productivity – which is how Westpac and other big banks are thinking about it. 

"In one of his first statements, [Turnbull] talked about a nation that is agile, innovative and creative, a nation that sees technology-driven disruption as a friend of growth," Hartzer told his 400-strong audience. "We agree."

To help the fintech and other tech industries blossom, it is crucial the right tone is set from the very top of government; this will provide cues for government ministers and, perhaps more important, the bureaucracy, to realise fostering a culture of innovation across the economy requires the attention of many departments, from Treasury, to Education and Immigration.

It is encouraging that bipartisan support for developing policy to turbocharge an innovation, technology-led economy is gathering speed. Earlier this year, the Parliamentary Friends of Innovation and Enterprise Group was established under the guidance of Liberal Tony Smith and Labor's Terri Butler; since Smith moved into the Speaker's chair, Wyatt Roy has taken a leadership role in the group.

The Liberals' Paul Fletcher, a former Optus executive, and David Coleman, the former head of ventures at Nine Entertainment, are also big supporters of the innovation policy push, as are Labor MPs Ed Husic and Jason Clare. 


Turnbull addressed the launch of this Friends of Innovation group on March 26 in one of Parliament House's internal courtyards. "This is the most exciting time to be alive," he told the small group of media. "We are living in an age of invigorating, exhilarating disruption driven by technology. Great, well-established businesses are being shaken, government departments are being shaken – everything is in a state of flux, and the game will be won by those that are agile and imaginative. 

"There is no shortage of technology as we move into the internet of things, where everything will be connected over the internet ... The technology is there – the critical thing we have to supply is imagination. This is why innovation is so important," Turnbull continued. 

"Innovation is just another word for describing creativity, right across our economy and society. We have to change our culture to build on that great tradition, that non-differential tradition, of innovation. We are naturally, an innovative nation ... and we have to be more disruptive and more innovative than ever before." 

While these comments can be applied to many parts of the economy, including the ICT [information, communications and technology] and medical sectors, the fintech scene is being spurred by the particular attention being paid to it by several of Turnbull's closest confidants. 

Fletcher, who served as parliamentary secretary to Turnbull as minister for communications, has been actively promoting fintech. "Governments in Britain, New Zealand and many other countries have a clear focus in this area, so we will need to work hard if Australia is to capture a fair share of the fintech opportunity," he wrote in The Australian in June. Fletcher attended the opening of the Sydney fintech hub Stone & Chalk last month, as did another close supporter of Turnbull, Arthur Sinodinos. 

But no one is more attuned to the fintech opportunity than Turnbull's wife, Lucy, the former lord mayor and prominent director. In her role as chair of the Committee for Sydney, Lucy Turnbull identified the fintech opportunity more than 18 months ago, commissioning KPMG's Pollari to write a research report that provided the momentum for the creation of Stone & Chalk. 

Lucy Turnbull understands that developing a thriving fintech scene will have a multiplier effect throughout the economy, and will be able to give a lift to other creative industries including design, engineering and computer science. The Committee for Sydney "will seek to help accelerate Sydney's growing position in the region's financial services industry by supporting its burgeoning fintech scene and the eco-system and environment required to sustain it," she wrote in the introduction to the report. 

She also said policy development from the commonwealth was needed "to ensure that we have competitive tax and visa regimes in place to enable Sydney to attract the global talent and investment required to maintain its existing status as the nation's centre for both finance and ICT and indeed to enable it to increase its economic significance in the region." 

Last week, as the political machinations in Canberra reverberated around Australia, London was hosting its second annual fintech week, which was attended by a delegation of 10 Aussie start-ups on the invitation of UK Trade & Investment, which is trying to lure innovation talent to London, where an estimated 44,000 people are working in fintech. One member of the delegation was Toby Heap, the managing director of fintech accelerator H2 Ventures, previously known as AWI Ventures – which was launched by Malcolm Turnbull at the start of last year.  

"The fintech ecosystem and atmosphere in London is impressive but it is not out of reach for Australia if the Turnbull-led government can get behind it," Heap says from London. 

"In Australia, there is a chicken-egg problem, where investors talk of a lack of quality deal flow, and start-ups complain of a lack of funding opportunities. I think that the number one policy that is driving the early-stage tech ecosystem in the UK is the Seed Enterprise Investment Scheme, which gives investors a 50 per cent tax deduction on investments made in early-stage start-ups, as it has led to huge growth in the number of start-ups, which then leads to more deal flow for later-stage investment funds." 

Pollari says Turnbull's narrative last week "must be followed up with well-coordinated policy measures, regulatory and tax reforms to support local entrepreneurs and enable Australian businesses to be more innovative, agile and responsive to change."

Read more: Follow us: @FinancialReview on Twitter | financialreview on Facebook

Alternative finance and the wholesale disruption of lending

294177 stock photo human being child youth young adults summer beach young manKevin Moseri looks at disruption in the lending sector, the success of which he attributes to alternative finance.

The rapid rise in popularity of alternative finance is responsible for the major disruption taking place across the whole lending regime. It’s no longer safe for banks to assume that their core lending regimes are impervious to disruption.

Alternative to what, exactly? The banks. Alternative finance encompasses a range of diverse models with clear distinctions such as people lending money to each other or to businesses, to people donating to community projects and businesses trading their invoices. It’s no longer just a seeding stage for startups, but a viable and attractive avenue for companies to raise capital at every stage of the funding cycle.

In an earlier post, Fintech 2.0 and the C-Word: Collaboration, I talked about how it’s increasingly becoming evident that banks are willing to support startups to innovate within the banks’ ecosystem. Likewise, the reality is that the coexistence of venture capital and alternative finance has now developed collaborative and synergistic models, and these models are rapidly increasing as banks and venture capital firms realize the scope of alternative finance.

What are the various European alternative finance models?

The European alternative finance landscape is dominated by the UK, with France and Germany slowly catching up. This is in part due to the dedicated regulatory regime that currently exists in the UK. Listed below is a working taxonomy of the various alternative finance models:

  1. Peer-to-peer (P2P) business lending (Funding Circle, Zopa, Auxmoney etc) – Debt-based transactions between individuals and existing businesses (mostly SMEs) with many individual lenders contributing to any one loan.
  2. Donation-based crowdfunding (Kickstarter, Indiegogo etc) – Individuals donate small amounts to meet the larger funding aim of a specific charitable project while receiving no financial or material return in exchange.
  3. Invoice trading (Platform Black, IFG etc) – Companies sell their invoices at a discount to a pool of individual or institutional investors in order to receive funds immediately rather than waiting for invoices to be paid.
  4. Peer-to-peer (P2P) consumer lending (Zopa, Funding Circle, Lending Works etc) – Individuals use an online platform to borrow from a number of individual lenders, each lending a small amount; most are unsecured personal loans.
  5. Community shares (Microgenius, The Community Shares Company etc) – The term community shares refers to withdraw-able share capital; a form of share capital unique to cooperative and community benefit society legislation. This type of share capital can only be issued by cooperative societies, community benefit societies and charitable community benefit societies.
  6. Equity-based crowdfunding (Seedrs, FundedByMe, Crowdcube etc) – Sale of a stake in a business to a number of investors in return for investment, predominantly used by early-stage firms.
  7. Pension-led funding (Alternative Business Funding, IGF etc) – Mainly allows SME owners/directors to use their accumulated pension funds in order to invest in their own businesses. Intellectual properties are often used as collateral.
  8. Reward-based crowdfunding (Kickstarter, Indiegogo etc) – Individuals donate towards a specific project with the expectation of receiving a tangible (but non-financial) reward or product at a later date in exchange for their contribution.
  9. Debt-based securities (Zopa etc) – Lenders receive a non-collateralized debt obligation typically paid back over an extended period of time. Similar in structure to purchasing a bond, but with different rights and obligations.

The European alternative finance market grew by approximately 144% in 2014 and is predicted to reach €7bn by the end of 2015. Three things have contributed to this trend: speed, simplicity and transparency.

However, there are structural risks that could derail the trajectory that alternative finance is on, such as interest rate hikes, new regulations, frayed banking relationships, and other unforeseen factors.

– This article is reproduced with kind permission. Some minor changes have been made to reflect BankNXT style considerations. You can read the original article here.

How many ambitious #smallBizAU really understand that to double in size they need funds to double their debtor book?

question 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.

The IX Growth Calculator 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.

Inspired by a very useful piece of advice from the NSW Government:


#Reform: How #auspol can help match #smallBizAU rejected for finance with alternative lenders


UK Perspective

Context - March 2014

Budget 2014 in the UK announced that the government would consult on whether and if so, how, to take legislative action to help match small and medium sized enterprises (SMEs) that have been rejected for loans with challenger banks and alternative finance providers who are looking to offer finance. The government believed that positive action in this area would be an important step to improve access to finance, and would encourage a more competitive banking sector. The government undertook a consultation which complemented proposals, announced by the government at Autumn Statement 2013, to require banks to share information on their SME customers with other lenders through Credit Reference Agencies.

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.

Some attempts have been made to address this market failure, but they are limited in scope and have been slow in achieving results. The UK government is committed to helping small businesses access finance, and believes that more can and should be done. The subject of their consultation was whether or not to address this market failure through a much more ambitious government intervention that would increase the amount of information that is available to challenger banks and other providers of finance about businesses seeking finance, but which are rejected for finance by the major banks. The consultation asked whether this government intervention is needed and, if so, for views on how the government should deliver this, including via a preferred option of referral to private sector platforms.

Detail of outcome - December 2014

The UK government welcomed the widespread support for its proposals to improve access to finance for SMEs through a mandatory process whereby lenders are required to share details of SMEs they reject for finance, so those businesses can be approached by alternative lenders.

In light of this support, the UK government decided to proceed with legislation through the Small Business, Enterprise and Employment Bill. The legislation will require the largest UK SME lenders to forward on details of SMEs they reject for finance (where SMEs give their consent) to platforms that will help them be linked up with alternative lending opportunities. Private sector platforms will be designated to receive this information by the government on the basis of their meeting clear minimum standards that focus on ensuring that SMEs are in control and properly protected throughout the process.

The government published draft regulations to assist Parliament’s scrutiny of the powers in the Small Business, Enterprise and Employment Bill. These are not in final form and further changes may be made before the regulations are made.

The government intends to institute further requirements for ‘online platforms’ that wish to be designated under these regulations; these will be set out non-legislatively in due course.


Segmenting the alternative finance market for #smallBizAU loans

  Business banking in Australia isn't working. Small-medium sized businesses cannot access capital to grow and develop their businesses. Banks are only interested in lending to businesses against property and still the experience is poor. Just read East & Partners recent survey:

"Deteriorating customer loyalty is matched by similar declines in empathy, satisfaction and most importantly customer advocacy. Driven by credit experiences, small businesses previously conveyed a strong view that provider choice and competition for their business was lacking."

Online non-bank finance providers - 'altfi' or 'fintech' - are starting to fill the void.

Here's one way to look at it:

altfi market


Terms and conditions vary. Some of the providers in the sub-$150k bracket charge up to 65% APR. Speed of execution and customer service are important but value for money is just as important. Thankfully, there are a few offering much more reasonable terms for better quality customers, like InvoiceX.

Australian Chamber of Commerce and Industry chief Kate Carnell recently said:

Access to capital from the big banks is a hindrance holding small business back. Ms Carnell said big banks were typically requiring mortgage security to be pledged for small business loans or otherwise providing credit cards with high interest rates. Alternative funding sources such as those from crowdfunding and other online lenders must be supported by the government, she told the summit.

Ms Carnell said it was understandable that banks wanted to minimise risk and maximise return on equity but “we went through the National Reform Summit where many comments were made about generating growth and productivity and innovation – which requires entrepreneurs growing and employing. That is all true, but none of it will happen if we have an environment where small business is not able to borrow. It seems like we skirt that issue a bit. The banks say there are no problems, of course they are willing to lend. Well, they are, but only when you can offer them a house.”

Sydney Morning Herald, 30 August 2015

Forbes: How Banks Lost Their Groove In Small Business Finance... And Why They May Never Get It Back

Rohit Arora



Prior to the Great Recession, easy credit conditions prevailed for small businesses. Cash was free flowing, and relaxed lending practices made it relatively easy to secure financing.

After the Lehman Brothers crash and during the ensuing “credit crunch,” volume fell roughly 19% from 2008 until 2012. This general slowdown in lending coincided with stricter requirements placed on borrowers. Financing simply became less available — even for “creditworthy” companies. For the first time in U.S. business history, small business owners frequently were unable to secure credit even from their own banks.

Many banks suffered losses when the housing bubble burst, and they became risk averse. In order to make loans, they often sought three years worth of financial data. Naturally, revenues declined during the recession, and startups were particularly challenged because they had no financial track record to highlight. Historical data from my company’s Biz2Credit Small Business Lending Index shows that big bank lending hit rock bottom four years ago in June 2011, when only 8.9% of small business loan applications were granted.

So what happened during this inefficient market? As bank lending fell significantly, so entrepreneurs looked for other sources. Technology enabled platforms such as Biz2Credit, BoeFly and Lendio, as well as balance sheet lenders OnDeck Capital and Kabbage, to emerge and match entrepreneurs with willing lenders.

Had the banks not shut the spigot so tightly, borrowers might not have been so motivated to look elsewhere. Business owners went online in search of capital in the same way that shoppers adopted technology to find the best deals on consumer goods. These events led to the rise of peer-to-peer lending platforms, such as Kickstarter and Indiegogo, that collectively had provided more than $1 billion in financing for entrepreneurs by 2011.

Alternative lenders (merchant cash advance companies, factors, and others) also took advantage of the opening when banks refused to lend. In return for a percentage of future revenues, they were willing to provide quick, short-term infusions of cash. These lenders were willing to take on riskier debt, and that risk manifested itself in the form of high interest rates, sometimes 30% to 40%, that often had to be paid off in six months or less.

The latest major threat to the supremacy of banks has been the rise of marketplace lending, which evolved from peer-to-peer. Now, instead of having individuals fund your company, institutional platforms have gotten into the small business lending game. Insurance companies, family funds, VCs and others are providing billions in capital through online platforms. They make quick decisions like other non-bank lenders, but offer longer terms and much lower interest rates.
Before the recession, about 80% of small business owners went to a bank first and when rejected, they turned to the internet to find funding. Today, 80% go online first, and some 60% of them are doing so via a mobile platform. Further, almost two-thirds (65%) fill out loan applications after 6:00 p.m. and on weekends — times outside traditional banking hours. One cannot underestimate the role of financial technology in this evolution.

Even with all of this change, not one single big bank established its own digital application process for small business loans. The banking industry usually has been on the cutting edge of technological advancements, but in the case of small business loans, customers have moved online faster. This is a dramatic turn of events.

Big banks have steadily increased the percentages of loans that they grant to small businesses. In June of 2014, the figure eclipsed 20% for the first time since before the Great Recession. The latest research finds the level has risen to 22.1%: good, but not great since nearly four-of-five funding requests are rejected. Meanwhile, smaller banks are approving slightly less than half of the applications they receive. At the same time, institutional lenders tend to fund more than six in ten funding requests at interest rates that rival those of the banks and at a much faster pace.

When banks were unwilling to lend, borrowers went elsewhere. Eventually, overall economic conditions improved and credit eased, but small business owners did not flock back to the banks. They learned that they could get funding elsewhere. Banks have lost an incredible amount of opportunity for two reasons. Firstly, big banks still tend to focus on small business loans of $2 million, even though many entrepreneurs don’t need such large amounts. Secondly, many banks have not invested adequately in technology that allows online small business loan applications ad still tend to favor government-backed SBA loans that take longer to process and require large amounts of paperwork.

The end result is that banks, which did the lion’s share of small business lending before the Great Recession, now are declining as lenders. Their primary advantages — name recognition and the branch system — have eroded, thanks to technological advances. I believe that much of the market share they lost is now gone forever.


Harvard Business Review: the 5 requirements of truly innovative companies

  APR15_27_523108643Can you think of any business topic that’s been hotter for longer than innovation? Trouble is, it’s hard to think of any business challenge where real pro­gress has been harder to come by. By now, your company probably has a new busi­ness incubator, an idea wiki, a disciplined process for mining customer insights, an awards program for successful innovators, and maybe even an outpost in Silicon Valley—all fine ideas—and yet, most likely, it still struggles to meet its growth goals and seldom thrills its customers. And it’s not just your company. In a McKinsey poll, 94% of the managers surveyed said they were dissatisfied with their company’s innovation performance.

By comparison, think of the long strides many businesses have made in reengineering their supply chains, boosting product quality, and rolling out lean six sigma. These efforts have paid huge dividends. And yet when it comes to innovation, the gap between aspiration and accomplishment seems as big as ever. What’s the problem?

Over the past two decades, we’ve led dozens of innovation projects and have talked to thousands of managers about the challenge of building a high-performance innovation “engine.” What we’ve observed is that in most organizations, the innovation power­train is missing several critical components.

Imagine a car motor that lacks a transmission, timing belt, water pump, or starter. The engine may be otherwise well built, but without just one of these components, it will be essentially worthless. So it is with innovation. However much brainstorming your employees do, it will come to naught if they don’t have access to the seed money they need to prototype and test their ideas. Likewise, no matter how slick your company’s online idea market, it won’t yield many high-value ideas if your associates haven’t been taught to think like innovators.

No single innovation tool or method will deliver consistent, profitable breakthroughs, and neither will a hodgepodge of misaligned or poorly integrated practices. It takes a systematic approach to build a systemic capability—whether that is Amazon’s logistics prowess or the near-flawless service you receive as a guest at a Four Seasons hotel. So it is with innovation. Skills, tools, met­rics, processes, platforms, incentives, roles, and values all have to come together in one supercharged, all-wheel-drive, race-winning innovation machine.

So what are the parts of the innovation engine that most often get left out? Here’s our list of the top five:

1. Employees who’ve been taught to think like innovators

We’re a bit dumbfounded that so few companies have invested systemati­cally in improving the innovation skills of their employees. The least charitable explana­tion for this oversight is that despite evidence to the contrary, many senior managers still assume that a few genetically blessed souls are innately crea­tive, while the rest can’t come up with anything more exciting than suggestions for the cafeteria menu.

We understand how a CEO might come to such a conclusion. Every day, senior executives get bombarded with ideas—and most of them are either woefully underdeveloped or downright batty. After a while, it’s easy to believe that all those dopey ideas must be coming from dopes, rather than from individuals who haven’t been trained in or given opportunities to practice innovative thinking, and who work within a system that hasn’t been properly designed to foster it.

Much has been written about where innovation comes from and what distinguishes an innovative mind. Our research and experience suggest that inquiry is at the heart of it. Innovators have an inclination and a capacity to examine what others often leave unexamined. So if you want innovation, individuals must to be taught to do four things:

  1. Challenge invisible orthodoxies. Within any industry, mental models tend to converge over time. Executives read the same trade magazines, go to the same conferences, and talk to the same consultants. After a while, they all think alike. Innovators, by contrast, are contrarians. In their quest to upend industry rules, they learn how to distinguish “immutable laws” from “ingrained beliefs.” They exploit the unhealthy reverence incumbents have for precedent.
  1. Harness underappreciated trends. Innova­tors don’t spend much time speculating about what might Instead, they pay a lot of attention to the little things that are already changing, and that are gathering speed. To be an innovator, you don’t need a crystal ball: you need a wide-angle lens. You have to be tracking trends your competitors haven’t yet noticed, then figuring out ways of using them to upend traditional business models.
  1. Leverage embedded competencies and assets. Innovation gets stymied when a company defines itself by what it does rather than by what it knows or owns—when its “concept of self” is built around products and services rather than around core competencies and strate­gic assets. Innovators see their organization, and the world around it, as a portfolio of skills and assets that can be endlessly recombined into new products and busi­nesses. They are masters of recombination.Address “unarticulated” needs. Customers have their own orthodoxies, so asking them what they want seldom yields a fundamentally new insight. Instead, you have to observe them, up close and over time, and then reflect on what you’ve learned. Where are we creating needless frustrations? Where are we wasting our customers’ time? Where are we making things overly complex? Where are we treating customers like numbers instead of people? To be an innovator, you have to be a relentlessly curious anthropologist and a keen-eyed ethnographer.
  2. With a bit of training, and some opportunities for real-world practice, just about anyone can sig­nificantly upgrade their innovation skills. Whirlpool Corporation’s strong innovation perfor­mance in recent years owes much to the fact that the company trained more than 15,000 of its employees to be business innovators. Any innovation program that doesn’t start by helping individuals to see the world with “fresh eyes” will almost inevita­bly fall short of expectations.

2. A sharp, shared definition of innovation

To manage innovation in a systematic way, you have to have a widely understood definition of innovation. Without this, it’s impossible to know how much “real” innovation is going on and whether it’s paying off. Just as critically, you can’t hold leaders responsible for innovation if no one can agree on what’s innovative and what’s not.

Coming up with a practical definition of innovation is harder than it sounds, particularly if the goal is to rank every new initiative or product by its “innovative­ness.” When Heinz puts ketchup in a new squeeze bottle, is that innova­tion? When Comcast rolls out a new “triple play” pricing scheme, is that a break­through? When Whirlpool launches a washing machine that dispenses just the right amount of detergent, is that a game changer? While most people can distinguish between a genuine breakthrough (like the original iPhone) and a near-trivial product enhancement (like a new shade of Post-It® notes), it’s tougher to get agreement about all the shades of gray in between.

In our experience, it can take several months for a company to hammer out its defini­tion of innovation. As a starting point, it is important to look back over a decade or two and identify the sorts of ideas that have produced noticeable margin and revenue gains.

For a product or service to be counted as innovative at Whirlpool, it must be unique and compelling to the consumer, create a competitive advantage, sit on a migration path that can yield further innovations, and provide consumers with more value than anything else in the market. This definition may seem somewhat generic. What makes it useful, though, is the understanding that has developed over time as these criteria have been used to determine which ideas are truly innovative and which aren’t. With use, the defini­tion has gotten tighter, and differences of opinion have narrowed. It’s also important to periodically review the definition: did the prod­ucts that got rated as highly “innovative” actually yield above-average returns?

Having a practical, agreed-upon definition of innovation makes it easier to set goals for innovation, to allocate resources to innovative projects, to plan a cadence of innovative product launches, to target advertising on high-value breakthroughs, and to measure innovation performance.

3. Comprehensive innovation metrics

Companies measure just about everything that has an impact on the bottom line, yet strangely, they often shy away from measuring innovation. Granted, it is difficult to measure. Historical benchmarks are of limited value when a product has no antecedents, and it’s hard to pin down the future value of an idea that exists only as a concept.

Nevertheless, there are ways of measuring innovation performance. A comprehensive dashboard should track:

  • Inputs: the investment dollars and employee time devoted to innovation, along with the number of ideas that are gener­ated internally each month or sourced from customers, suppliers, and other out­siders.
  • Throughputs: the number and quality of ideas that enter the pipeline after initial screening, the time it takes for those ideas to move from concept to proto­type to reality, and the notional value of the innovation pipe­line.
  • Outputs: the number of innovations that reach the market in a given period, the percentage of revenue derived from new products and services, and the margin gains that are attributable to innovation.
  • Leadership: the percentage of executive time that gets devoted to mentor­ing innovation projects, and 360-degree survey results that reveal the extent to which execu­tives are exhibiting pro-innovation behaviors.
  • Competence: the percentage of employees who have been trained as business innovators, the percentage of employees who have qualified as innova­tion “black belts,” and changes in the quality of ideas that are being generated across the firm.
  • Climate: the extent to which the firm’s management processes facilitate or frustrate innovation, and the progress that is being made in remov­ing innova­tion blockages.
  • Efficiency: changes over time in the ratio of innovation outputs to inputs.
  • Balance: the mix of different types of innova­tion (product, service, pricing, distribution, operations, etc.); differ­ent risk cate­go­ries (incremental improvements versus speculative ventures); and differ­ent time horizons.

Once you’ve established the metrics and a baseline, you’re in a position to set specific, unit-by-unit innovation goals, and to fine-tune the innovation engine. Recently, for example, Whirl­pool’s Chairman and CEO, Jeff Fettig, set a goal for the company to double the value of its innovation pipeline over the next two years. Executives realized that to do this, they would need to reallocate some of the company’s innovation resources from late-stage product enhancements to early-stage product breakthroughs. With­out a set of comprehensive metrics, Whirlpool wouldn’t have been able to set such specific innovation goals, to proactively rebalance its innovation spending, or to measure the results of those actions.

4. Accountable and capable innovation leaders

What percentage of the leaders in your company, from project managers to execu­tive vice presidents, are formally accountable for innovation? What percentage have innovation-related targets that affect their compensation? If it’s anything less than 100%, innovation will be marginalized. Too often innovation is seen as the province of specialized units like R&D or corporate business development, rather than being the responsibility of every leader at every level.

Obviously, it makes little sense to hold leaders accountable for innovation if they haven’t been trained and coached to encourage innovation within their own teams. For a leader, this means:

  • Being adept at using innovation tools.
  • Creating frequent opportunities for blue-sky thinking.
  • Avoiding premature judgments when evaluating new options.
  • Demonstrating an appetite for unconventional ideas.
  • Recognizing innovators and celebrating “smart failures.”
  • Personally mentoring innovation teams.
  • Freeing up time and money for innovation.
  • Hiring and promoting for creativity.
  • Working to eliminate bureaucratic impediments to innovation.
  • Understanding and applying the principles of rapid prototyping and low-cost experi­mentation.

In our experience, most leadership development programs give scant attention to these innovation-enabling attitudes and behaviors. Through selection, training, and feedback, companies must work hard to create a cadre of leaders who are as adept at fostering innovation as they are at running the business.

5. Innovation-friendly management processes

A car is more than its engine. Mate a 500 HP engine with a set of nearly bald tires and most of that power will get wasted. Again, the same is true for innovation. No matter how laudable a company’s innova­tion practices are, if its entire management model hasn’t been tuned for innovation, little of the engine’s power will reach the bottom line.

If, for example, a company’s budgeting process is inherently conservative and makes it difficult for first-line employees to get funding for small-scale experiments, any investment in innovation skills will be wasted. If its product development pro­cess places too much emphasis on removing risk from new launches, few new-to-the-world products will make it to market. If its assessment and compensation system doesn’t reward innovation performance, it will end up with managers who are more bean counters than trailblazers. If it lacks a financial reporting system that tracks innova­tion investment and staffing, no alarm bells will ring when an innovation project gets sacrificed on the altar of quarterly earnings.

The point is, any process that significantly impacts investment, incentives, or mindsets needs to be re-engineered for innovation. Over the past decade, Whirlpool has done exactly that. Its HR leaders, for example, built an innovation-focused assessment exer­cise into the company’s MBA hiring process. Candidates who get invited to the company’s headquarters participate in a multi-day project designed to test their capac­ity to think creatively. On-campus interviews also feature an innovation exer­cise. Whirlpool’s investment process has also been tuned for innovation. Each year, the company devotes a board-sanctioned share of its capital budget—typically around 20%—to projects that are deemed to be truly innovative.

Over the past couple of decades, virtually every company has comprehensively over­hauled its operating model for efficiency and speed. Global supply chains have been optimized, business processes have been outsourced, and huge investments have been made in new IT tools. Thus far, though, few companies have devoted anywhere near this level of effort to retooling their management practices for innovation.

Taking a systemic view

Retooling an organization for innovation is a daunting task. When Whirlpool’s then-chairman, Dave Whitwam, committed himself to building a culture of innovation in 1999, he told his colleagues that the journey would take at least five years, and that during that time innovation would remain his top priority. He made it clear that this wasn’t going to be another program du jour. Moreover, he clearly under­stood the scope of the challenge. “Ultimately,” Whitwam warned his colleagues, “every job and every process will change.” In our experience, there aren’t many CEOs who think that systemically about making innovation a ubiquitous capability.

Typically, when we’re invited into an organization to review its innovation efforts, we find a jumble of tools and methods that are not only incomplete, but also poorly integrated. Individually, each piece makes sense—the crowdsourced idea contest, the internal venture fund, the customer sentiment analysis, the stage-gate product development process—but the whole is less than the parts. It’s as if a dozen differ­ent executives wandered into an auto parts store and each came back with some­thing they thought would be useful in constructing a car. While you can’t build an engine without all the necessary bits and pieces, it’s the integration of those compo­nents that turns a parts bin into a smooth-running machine. That’s why the innova­tion skills a company instills in its employees have to be consistent with its particular definition of innovation, which has to match up with the innovation metrics it selects, which have to be woven into the performance management system. Likewise, all of the ancillary innovation processes must mesh with this set of core components.

No matter how committed, a CEO can’t single-handedly reconstitute a company for innovation. The entire top team has to be on board. Beyond this, the re-engineering efforts need a strong C-suite leader to be responsible for the design and construction of the company’s innovation engine. We call this the “innovation architect.” He or she is a bit like the lead engineer on a car program, whose job is to make sure that all the pieces come together in one coher­ent system. In the case of innovation, this means making sure that innovation is meas­ured in the right way, that employees at all levels have been trained as business innovators and have access to the right insights and tools, that customers and suppli­ers are plugged into the company’s innovation platform, that innovation projects are adequately funded and monitored, that hiring and promotion criteria help to strengthen the company’s innovation “gene pool,” that innovation values get continu­ally reinforced, and that the company’s innovation pipeline is robust enough to meet the company’s growth objectives.

In recent years, a number of companies have appointed a “Chief Innovation Officer” to oversee major new growth initiatives. In our conception the responsibilities of the innovation architect are broader, including not only business develop­ment but competence development as well. The ultimate goal is a company where innovation is “built in,” rather than “bolted on”—where it is instinctive for every individual, and intrinsic to the organization itself.

If your company is really serious about building an innovation engine, then it needs to upgrade everyone’s innovation skills, agree on what counts as innovation, establish comprehen­sive metrics, hold leaders accountable for innovation, and retool its management processes so they foster innovation everywhere, all the time. These can’t be isolated initiatives; they must work in harmony.

Do all this and you’ll have a company that can win, and win again, in the twenty-first century’s creative economy.


Gary Hamel is visiting professor at London Business School and cofounder of The Management Innovation Exchange. His latest book is “What Matters Now.”

#auspol needs to address failure of banking system to support business growth

slowDavid Murray, Financial Systems Inquiry: The core function of the Australian financial system is to facilitate the funding of sustainable economic growth and enhance productivity in the Australian economy.

We need a financial system focused on business growth and innovation, not $2 trillion of mortgages. Policy matters.

Building a world class innovation hub is critically important for Australia


A fight to save Sydney’s technology hub, the Australian Technology Park, led by Atlassian founder Mike Cannon-Brookes, from developers has gained additional momentum with more than 1000 people signing an online petition calling on NSW planning minister Robert Stokes to intervene in the government’s sale of the 14-hectare site on the outskirts on the CBD.

Atlassian, partnering with Walker Corporation, is in a two horse race to take control of the site in Redfern against Mirvac/Commonwealth Bank bid which will include apartments and the bank as anchor tenant.

Cannon-Brookes, has pledged to relocate his global tech company to the ATP if successful, and has been enlisting support from other tech startups who’ve also pledged to move in to create a collaborative innovation hub akin to Roosevelt Island in New York, or Shoreditch in London. The entrepreneur says it would be a “huge shame” and lost opportunity for the city’s burgeoning tech industry if it was sold for another use.

Matthew Ho, product development head at Sydney software business Tapmint has now joined the chorus of support, creating a petition via the 3000-strong Sydney Startups Facebook group over the weekend.

“If you care about the future of Australian tech, sign this petition and leave a comment,” he said, adding that he wanted to generate more support from Australian startup community to the Atlassian bid.”

The petition says the ATP is currently home to 100 technology firms currently generating 5,500 jobs. They fear it may be closed.

A PwC study commissioned by Atlassian found that the site could generate $390 million in value over 10 years as a tech hub.

“What we’re saying to government is that a physical place is one plank in a broader set of initiatives they need to put together if they’re really committed to changing this stuff,” Cannon-Brookes says in support of the petition.

The petition is here.

Incentivise savers to boost investment for growing businesses

Australia and the UK face similar productivity problems and a big part of the problem is access to finance:  

Incentivise savers to boost investment for mid-sized firms

Long-term approach essential for growing firms’ funding

Offering tax incentives to savers who commit to providing long-term finance for medium-sized businesses (MSBs) would help growing firms realise their full potential, according to a new CBI/BDO report.

Read the CBI/BDO Stepping Up report here

Stepping up: fixing the funding ladder for MSBs recommends ways the Government can encourage long-term debt and equity investment in these firms. The ‘forgotten army’ of Britain’s businesses, MSBs represent just 1.8% of companies, but generate nearly a quarter of private sector revenue and make up 16% of total employment.


McKinsey: tech gives small-medium sized businesses a killer advantage


Technology is allowing small and medium sized business to disrupt and compete with multinational corporations like never before, according to a global report into the profits of some of the world’s largest firms.

The report by research institute McKinsey Global Institute predicts multinational profit growth will slow from 5% to 1% in the next 10 years, with competition from technology-enabled firms and small and medium sized business expected to contributing to some of the decline.

The report, which was released today, is based on analysis of 30,000 large firms around the world and aims to highlight how the golden era might be over for the world’s largest companies, which have experienced a three-decade boom of unprecedented growth.

Titled Playing to Win: The new global competition for corporate profits, the report shows how record profit growth since the 1980s, which the report says led to five-fold growth in corporate net income until 2013, is set to slow in the next decade.

It also suggests in the future large corporations may cease to benefit from some of the things that have allowed such rapid growth, including falling costs, tax breaks and interest expenses.

McKinsey Global Institute director Richard Dobbs said that global corporate net growth had grown by more than 5% in real terms from 1980 to 2013, likening it to an “unprecedented bull run over the last 30 years”.

He said the expected 4% fall in the corporate profit pool real growth rate is a “very significant change” in the nature of global competition and the economic environment.

“Emerging market players – who by 2025 will represent 45% of the Fortune 500 - are playing by radically different rules and, in many cases, accept a 25-50% lower return than their Western peers.”

“Technology and technology-enabled companies continue to disrupt all sectors, reducing profits. Technology can also enable small and medium size enterprises to compete with their larger peers.

“At the same time we are seeing the end of the era of declining taxes, interest, and labour costs.”

Peter Strong, executive director of the Council of Small Business of Australia, told SmartCompany this morning he believes the internet and social media are a big driver behind this trend.

“It’s a good thing, a sign of the times; it should give us some hope for the future,” Strong says.

Strong cited recent comments by small business minister Bruce Billson regarding the US putting a stop to companies such as Microsoft buying up smaller tech companies, inhibiting innovation.

“Innovation comes from small not big,” he says.

Strong says the McKinsey research represents “another reason why we need that effects test”.

“If we’re not careful, the little ones will be stifled,” he says.

“Coles and Woolworths already inhibit innovation in our manufacturing and production areas by their domination.”

“There’s nothing wrong with big business slowing down their money making, it’s got to happen.”

Follow SmartCompany on FacebookLinkedIn and Twitter.

The Adviser: It’s time to take notice of marketplace lending

attentionMarketplace lending is one of the biggest disruptions faced by the Australian financial sector. It is the democratisation of consumer lending, and promises to shake up a market dominated by a small few. While it may have had a slow start on these shores, competition is growing. SocietyOne has just made a major hire from US company Lending Club (who raised US$1 billion at its initial public offering), and they’re backed by James Packer and Lachlan Murdoch. What’s more, a Melbourne-based marketplace lender is expected to launch soon, joining the likes of RateSetter, LendingHub, DirectMoney and MoneyPlace.

Is it any wonder that Australians are waking up to the potential of marketplace lending, both as borrowers and investors? The World Retail Banking Report 2015 by Capgemini and Efma found banks are increasingly failing to meet customer expectations.

Digital upstarts are stepping in to fill the gap. They’re generally more agile, innovative and customer-centric. How has some of the sector reacted? By telling Australians to be wary of marketplace lending.

Yet, we’ve only had positive experiences. We added RateSetter to our lending panel around four months ago because we wanted to expand our offering and provide more competitive rates to our customers, and the numbers speak for themselves. We recently helped a client refinance their $18,000 car loan and got a 4.8 per cent interest rate over two years with RateSetter. The client was paying 16 per cent originally, so the saving was significant.

We also wanted a better service, and RateSetter has provided a dedicated senior assessor who deals with all our applications. We’re no longer just a number – we get a more personalised service plus greater ownership and accountability. What’s more, the application format is easy to use, and the feedback we’ve had from both clients and brokers has been positive.

The ‘Uberisation’ of financial services is here to stay, and it’s providing some exciting opportunities for consumers to get a better deal, and for brokers to help them find it. It also won’t be too long before marketplace lending tackles mortgages in this country. Watch this space.

Paul Walshe, managing director, Fair Go Finance

Paul Walshe is the founder and managing director of Fair Go Finance, providing personal loans to everyday Australians and a dedicated service to brokers via PL Broker.

As chair of the National Credit Providers Association, Paul is committed to establishing understanding and acceptance of the micro-lending industry in Australia.


ACCI's Kate Carnell speaks up for #smallBizAU funding - please keep it up!

carnell Australian Chamber of Commerce and Industry chief Kate Carnell pointed to access to capital from the big banks as a hindrance holding small business back. Ms Carnell said big banks were typically requiring mortgage security to be pledged for small business loans or otherwise providing credit cards with high interest rates. Alternative funding sources such as those from crowdfunding and other online lenders must be supported by the government, she told the summit.

Ms Carnell said it was understandable that banks wanted to minimise risk and maximise return on equity but "we went through the National Reform Summit where many comments were made about generating growth and productivity and innovation – which requires entrepreneurs growing and employing. That is all true, but none of it will happen if we have an environment where small business is not able to borrow. It seems like we skirt that issue a bit. The banks say there are no problems, of course they are willing to lend. Well, they are, but only when you can offer them a house."

She called for light touch crowdfunding legislation to be introduced soon. She also encouraged alternative lenders to talk to SMEs about their offerings. Read more: