The Future Growth Loan Scheme and Covid-19 Credit Guarantee Scheme were very popular with micro enterprise borrowers, and the market failure in long-term lending hasn’t gone away, writes Chris Sparks.

Thanks to Brexit and Covid, business borrowers have had a great run in recent years in terms of sourcing loan finance. Discounted state and EU funding channelled through the Strategic Banking Corporation of Ireland to on-lenders proved to be popular with SMEs and farm enterprises. Now, however, that subsidised money well has almost run dry.

The experience of the Future Growth Loan Scheme (FGLS) proved that there is borrower demand for long-term, unsecured loans at a low interest rate. The FGLS was launched in June 2019 to address the market failure in long-term lending to SMEs for investment purposes, and a recognised underinvestment by SMEs in business development.

Initially making €300m in lending available, the scheme expanded in July 2020 to make a further €500m following a rapid uptake of the scheme.

An important feature of the FGLS for on-lenders such as high street banks was a guarantee element from the European Fund for Strategic Investments. For borrowers, FGLS attractions were loan amounts of €25,000 to €3m; loans unsecured up to €500,000; initial maximum loan interest rate of 4.5%, or 3.5% for loans over €250,000; loan terms of seven to 10 years; and optional interest-only repayment available for up to two years in certain circumstances.

The on-lenders participating in FGLS were AIB, Bank of Ireland, Close Brothers, KBC Bank, Permanent TSB and Ulster Bank. Those lenders reached their Future Growth Loan Scheme capacity at the end of 2021.

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In total, 3,480 loans were drawn to a value of €750m. Of those borrowers, 2,500 are classified as Micro enterprises i.e. an enterprise that employs fewer than 10 people and whose annual turnover or annual balance sheet total does not exceed €2m. These 2,500 micro borrowers collectively have drawn down €370m in FGLS funding, an average of €150,000 each.

The average FGLS loan amount for ‘Small’ SMEs (i.e. 10 to 49 staff) is €330,000, while ‘Medium’ SME (turnover under €50m) borrowings average €700,000 from FGLS lenders.

The impact and benefits of the FGLS were analysed in 2022 for the Department of Enterprise, Trade and Employment by Oxford consultancy SQW. Their research found that FGLS loan finance has been used by businesses to address specific growth aspirations, with no ‘typical’ activity.

Around half of manufacturing businesses, and over 60% of services businesses, used FGLS to invest in activities such as staff recruitment and training. SQW found that at least a quarter of both manufacturing and services businesses invested in IT, and that investment in developing new or improved products, services and processes was also common for businesses in these sectors.

Accelerating and catalysing growth was the most cited reason for businesses applying to the FGLS. Consultant Kadriann Deacon commented: “The scheme was seen by both lenders and stakeholders to have filled a genuine gap in the market in relation to the provision of long-term, unsecured lending in Ireland.”

SQW found that the key features attracting businesses to the scheme were the interest rate, loan term and unsecured nature of the finance. However, it was the combination of these features that was often crucial rather than one factor alone. A substantial proportion of businesses also highlighted the collateral requirements and repayment period as key differentiators for the scheme, reflecting the importance of the combination of the features in explaining a preference for the FGLS over normal bank loans.

SQW concluded that whilst some deadweight was evident, the absence of the scheme would have meant a lower level of benefit for the economy, and a reported gap for longer-term finance for SMEs unfilled. Lenders reported they had supported businesses via the FGLS that they would not have funded without the scheme, with SQW estimating that around half of the activity supported by FGLS would not have progressed without the scheme.

The SQW assessment also formed the view that there is ongoing strong demand for longer-term lending. The key reason for seeking further finance relate to business expansion, followed by climate mitigation and adaptation for primary agriculture businesses, and R&D/innovation.

“The consistent view was that there remained a significant ‘untapped’ market for longer-term lending given the long-standing challenge of underinvestment by businesses in Ireland,” Deacon commented.

According to SQW’s report, the consistent message from consultations with lenders and stakeholders was the potential benefits from providing a greater continuity and stability of provision going forward. The concept of the FGLS as a ‘facility’ rather than a ‘scheme’ was suggested, as well as a higher level of total financing in response to the high level of anticipated demand.

Banks were forthright with SQW about their attitude. They acknowledge that there is demand for a product similar to FGLS but that long-term and unsecured lending remains commercially unattractive due to the level of risk involved. Lenders stated that this risk, coupled with the capital requirements under the European banking regulatory framework, means they would still not be able to offer similar lending without a state guarantee in the future, or at least not at a similarly affordable price point for borrowers.

The Covid-19 Credit Guarantee Scheme (CGS) was another godsend for SME borrowers, and like the FGLS it has run its course. Launched by Leo Varadkar in September 2020, the CGS provided an 80% state guarantee for loans of €10,000 to €1m made to SME borrowers. There was less conditionality as to purpose attached to CGS loans than FGLS loans. For example one in six CGS loans drawn down by micro enterprise borrowers were for premises fitout (€70m in total).

The CGS was more popular with micro borrowers than the FGLS, with 7,570 loans drawn down as of last November, at a borrowing cost of 2.5% to 3%. The average micro loan amount was €50,000, and the main loan purposes were working capital (39%), equipment purchase (28%), premises fitout (17%), and new product or process (13%).

In total, the Covid-19 Credit Guarantee Scheme made €710m available to large and small SME borrowers. Without the state guarantee, it’s likely that the majority of the loans to micro enterprises would not have been effected by the cautious banks.

The evidence from both schemes is that small firms will borrow to improve and expand their business if the finance is available on the right terms and at a reasonable price. The absence of a personal guarantee is also crucial.

At the end of January 2023, the SBCI launched the Ukraine Credit Guarantee Scheme, with Bank of Ireland the first on-lender to be announced.

The main features of the UCGS are:

•      no personal guarantee or collateral required for loans up to €250,000

•      loans of up to 6 years and €1 million

•      reduced interest rates vs standard market rates

•      available until 31 December 2024 and includes famers, fishers and small mid-caps

•      Pre-eligibility available on SBCI Hub.

In development from the SBCI is the Growth and Sustainability Loan Scheme, which will make €500m in competitively priced loans of between €25,000 and €3m available to SMEs, including farmers and fishers and small mid-caps, for terms of up to ten years, with loans of up to €500,000 available unsecured.

The scheme will target a minimum of 30% of the lending volume towards Environmental Sustainability purposes with the aim of encouraging SMEs to take positive actions in support of the climate change agenda.

The scheme will be delivered by the Strategic Banking Corporation of Ireland through participating finance providers. It is likely to launch in April or May 2023.