Article
Written by Colin Sanders
Posted on 08/12/2017

Why are some businesses refused credit?

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There will be a vast number of reasons why a company/business is refused credit.

Firstly, what type of credit to choose? Credit for services or goods or for finance? Let’s take the latter first. There are two ways of looking at this, as there is a variety of lenders in the business world:
Banks: through overdrafts, loans or invoice finance (factoring . invoice discounting)
Alternative Finance: through loan facilities or cash advances for either capital purchases or working capital requirements.
Venture Capitalists: generally via a shareholding in the business. These usually apply to large corporates, either for new and innovative companies that are considered high risk or investing in companies of a significant size but who are in financial difficulties or require substantial sums for major expansion projects.

With banks and VC’s, these will invariably be subject to some form of security, i.e. a charge over assets, book debts (in the case of factoring / invoice discounting) or personal guarantees from directors, shareholders, sole traders/partnerships. Alternative finance may or may not secure their lending, dependent upon the risk level and sums involved. The latter has grown substantially since the economic recession of 2008-09 due to the reluctance of the major UK banks to lend whilst they themselves were experiencing financial difficulties. Let’s not forget, HM Governments poured millions into some to ease the financial pressure. HM Government still has major stakes in some UK banks such as RBS (Royal Bank of Scotland) and Lloyds to name but two.

In all three of these types of lending, all will evaluate based on:

  • Financial well-being (if an established business)
  • Business activity
  • Future prospects for the sector
  • Track record of directors / owners
  • Initial capitalisation if a new start-up
  • How much credit is being asked for

The days of the bank overdraft are all but being phased out by the banks that are more akin to going down the factoring/invoice discounting route as it has added security (a charge over book debts).

The level of interest rates will also vary considerably, and even though BoE base rate is 0.25%, all will charge considerably more. Banks’ in general will be single figure percentages, alternative finance generally higher (because they will invariably assume the business has been turned down by the bank) and VC’s considerably higher still because of the higher risk factor.

In respect of credit for goods and services, suppliers will/should evaluate the risk under the same criteria, however, credit will mostly be on an unsecured basis and therefore a greater risk. Credit managers will utilise a number of tools at their disposal (subject to their diligence and credit procedures/policies), such as a credit report and/or credit insurance policy. They may even obtain a more up to date picture by requesting up to date management accounts.

From a business’ point of view, don’t fall down at the first hurdle. Provide everything that will be required. For a start -up business, forecast figures but also the initial capitalisation will say a lot as to how committed you are. If you are asking for £50,000 credit or a loan to that level, £100 issued capital doesn’t look like a serious commitment. If you are not committed then why should the lender or credit supplier be more so? You should also highlight why your business will succeed, why you think there is a hole in the market to be filled or that no one has come up with your business idea and vision previously. Chapter and verse will be needed to get that loan or credit supply. Incidentally, 2016 saw a record of new business start-ups, 650,000 in total.

In respect of an established business you will need to demonstrate a successful track record or in the case of losses, how you intend to turn it around and again showing a level of commitment that you want the lender to match.

From the credit manager’s view, it is not all about the maths; think outside of the box as well. The recent failure of Monarch Airlines Ltd emphasises this point. Yes, the latest financials were extremely poor but add to this their prospects and credit was a definite no. That is taking out the fact that it was owned by a VC who had purchased the business for just £10, and a VC with a less than favourable reputation for long-term support. Monarch just did not fit today’s airline market. Short haul is dominated by financially sound carriers, Easyjet and Ryanair and long haul by the established and traditional long haul carriers, BA, Virgin, Emirates etc. Add to that, due to a weak pound and terrorist atrocities around the world, its traditional market was shrinking badly. Less take up for Tunisia, Morocco, Turkey and some Mediterranean islands. Some holiday makers have and are even given the UK a go.

The old adage still applies as much today as it has always done:

Credit where credit is due!