Record levels of smaller businesses sought external financial support in 2020, with further significant demand expected in 2021, finds British Business Bank research

Surge in use of government-backed loans and grants while bank overdraft applications flatline

Businesses shifted away from most traditional forms of external finance to utilise government-backed finance schemes and support.

Reflecting this, the utilisation of bank overdrafts, credit cards and asset finance all fell, while the only increase in the usage of traditional repayable external finance was seen in loans, up from around 10% in previous years to 25% in 2020. This is in reflected in BBLS and CBILS lending data, which showed around 1.5m facilities approved by the end of 2020. The use of government grant funding by businesses also increased significantly, from 2% in 2019, to 31% in 2020.

External finance most often sought for cashflow with some investing for growth

The report shows that nine in ten (89%) businesses seeking external financial support in the past year did so because of the impact of Covid-19, with 75% of these SMEs seeking external financial support to help with cashflow. Encouragingly 8% sought finance, at least in part, to pivot or change their business model and 7% to invest in the digital capability of their business.

Both cash balances and debt have risen

The majority of sectors saw between 20% and 30% of their SME population take up a loan during the pandemic, and British Business Bank data shows that across both BBLS and CBILS, the majority (59%) of SMEs accessing government-backed finance schemes have borrowed more than 20% of their reported turnover.

Turnover decline rates for businesses of all sizes were over three times their respective prior five-year average, illustrating the scale of disruption across all businesses. The smallest SMEs have experienced the largest declines in turnover. In Q3, 49% of zero employee firms reported a fall in turnover over the previous 12 months compared to 38% of businesses with 50-249 employees.

Additionally, a significant proportion of finance facilities taken out because of Covid-19 remained unspent by Q3 2020. Only 23% of SMEs had spent all of their facilities, and 19% reported they had not spent any.

A continued reduction in operating expenses combined with significant government financial support and precautionary saving led to a 20% rise in deposit holdings since the start of the year to a record £252 billion according to UK Finance data.

The report finds that record cash balances on the one hand and increasing debt levels on the other indicate that there are both a sizeable number of smaller businesses in a position to borrow further in 2021 and a sizeable number likely to struggle with debt repayments. High levels of debt, and in particular the number of businesses with higher debt to turnover ratios, suggests a potential drag on viable applications for finance in 2021.

Moving towards recovery

In the 4^th quarter of 2020, more than a third, (37%) of smaller businesses expected to stay the same size over the next 12 months, 33% expected to shrink, and 4% to sell or to close. Only one in five (21%) were expecting to grow, compared to 28% the previous year. Small (10-49 employees) and medium (50-249 employees) sized businesses were most likely to expect to grow (35% and 38% respectively) compared to 21% overall. SMEs in business services (25%) and production (23%) sectors were most optimistic about their prospects for growth over the next year, with businesses in construction and other services sectors least optimistic (both 17%).

The report suggests there could be significant further demand for funding in 2021, as businesses continue to recover from the effects of the pandemic. There are positive indicators that banks currently look to have sufficient capital and could support further lending. Due to the dominance of government emergency schemes, non-bank and alternative finance lenders have been less active in 2020 and seen lower demand for their products. The previous five years to 2020 saw significant growth in alternative finance flows to smaller businesses, and these lenders expect activity to resume when demand returns.

In addition to capacity held by private sector providers, British Business Bank’s programmes can meet demand for finance from smaller businesses, and to help the UK build back better. The Bank’s Start Up Loans programme saw successful applicants reaching a peak in June 2020, and a record £126m of funding drawn down in 2020, the highest since the scheme began and up 41% from 2019.

The Bank also has a wide range of interventions aimed at supporting venture and growth capital. This type of finance is vitally important to high-growth firms which have the potential to provide jobs and economic growth. British Patient Capital, aimed at this area of the market, has capacity to deploy an additional £1.5bn to support investment in these types of businesses.

Working with government, the Bank has also developed the Recovery Loan Scheme to ensure businesses of any size can continue to access loans and other kinds of finance up to £10 million per business once the existing Covid-19 loan schemes close, providing support as businesses recover and grow following the disruption of the pandemic and the end of the transition period.