KNOWLEDGE FUNDING - A CONSULTATIVE DOCUMENT
These comments have been drawn together by members of ACCA’s Small Business Committee. We consider the general direction being taken at this stage, and answer a number of suggested questions included in the document. We shall be happy to review the strategy of Knowledge Funding, as appropriate.
ACCA welcomes the move to provide finance for knowledge based businesses, which, as the consultation document notes, represent a fast growing sector of the global economy. ‘Knowledge Funding ‘ recognises the particular challenges facing knowledge-based businesses in relation to equity and debt finance. We believe that plans to address this issue are well placed.
SECTION 3 - BACKGROUND
3a) ACCA is in agreement that knowledge based businesses do and will continue to face problems raising finance. This is due to the prejudice facing all small start-ups, particularly those with a very limited asset base. This problem will be compounded by the recent track record of many knowledge-based and dot.com businesses which will make financiers even more reluctant to lend or invest in such businesses.
However, we would like to point out that the evidence of the finance gap facing knowledge-intensive businesses tends to be rather general. The particular needs of sectors should be examined to discover the nature of the ‘gap’ so that policies may be initiated to support these firms. There may also be regional differences and this dimension should also be examined.
3b) It is likely that both start-ups and established businesses suffer from the finance gap. However, it is likely the needs of these firms will differ.
3c) The range and amounts of finance that knowledge intensive businesses currently face difficulties in accessing is problematic to define. Differing sectors have differing needs. For example, one type of business may require large capital amounts to purchase equipment or to finance long term R and D whilst another may need very short-term finance to cover some initial start up expense.
3d) We believe that there is a gap in the debt finance available to knowledge intensive businesses. The majority of providers of finance to this size of business will be looking for security and typically these businesses do not have the tangible assets that could be secured, say, on a bank loan. This is a deficiency of the market for looking back not forward to future streams of earnings for assessing and valuing the business for potential investment.
3e) In addition to Enterprise Fund initiatives equity based finance could also come from tax breaks. For example:
(i) Treating dividend payment as the same of debt for tax purposes. That is charging dividends before tax. This would make equity more attractive to both owner managers and potential outside investors.
(ii) Introducing tax incentives for SMEs that encourage firms to retain earnings rather than distribute earnings via dividends.
3f) The government quite clearly has a role in addressing the problems of access to finance by the knowledge based businesses. Creating the necessary tax incentives for individuals seeking to develop new ideas tax incentives for finance providers and sponsoring organisations to research into the sectors where the finance gap exists are areas the government could seek to become involved. This is, of course, in addition to providing support in terms of a Guarantee Scheme, which is discussed in Section 4.
SECTION 4 – OPTIONS FOR SUPPORT
ACCA have considered the 3 Options for Support as stated in the consultation document, and believe that Option 3: The Loan or Equity Guarantee Scheme would best meet the needs of knowledge intensive businesses. A ’Fund’ and a ‘Challenge’ (Options 1 and 2), would, as one ACCA commentator noted “be at best a misuse of state resources and at worst be an interference in matters best left to the market”. Whilst supportive of a loan or equity guarantee scheme, we would wish to see a number of features in order to ensure that such a scheme is truly effective. We would wish to see a scheme that:
- promotes the concept of future orientated assessment based on future streams of earnings rather the gone concern approach currently adopted by banks.
- allows both debt and equity finance and would include both lender and recipient covenants which would be fine tuned to fit individual circumstances
- accepts that the risk of providing finance to such businesses will carry a high degree of risk - if this were not the case then conventional finance would be available. This means that the loss rate of schemes lending to this sector will be higher than normal. It will be essential to judge such schemes by their successes in assisting and maintaining businesses rather than by their loss rate.
- promotes the use of mentors in finance schemes. In some cases SBS/BL assistance will be adequate to provide service such as management training for the knowledge intensive business, but in many cases there will be a real need for greater involvement by way of mentoring and/or non-executive directors. All finance packages could include a detailed assessment of management and training needs, together with proposals for addressing these. Acceptance of the proposals could be an integral part of the financial package. The cost of including such assistance will be significant but has more chance of achieving the required results.
SECTION 5 – GENERAL MATTERS
Definition of knowledge intensive businesses. We believe that there is no need to define knowledge intensive businesses – to do so would “give a hostage to fortune”. What would be better is to identify the sectors that suffer from the finance gap and their particular needs. Research is vital before any scheme is designed.
Pricing. Support priced to reflect the intrinsic risk of knowledge intensive businesses may be difficult to achieve. And indeed, it is doubtful if any sophisticated measure of risk could be used effectively to assess pricing. Question 5e) addresses the fundamental issue that support for any venture will be priced at a level that reflects the risk.
Mentoring There is evidence that mentors can make a significant contribution to the survival and prospects of small businesses. Mentors should be promoted as part of a guarantee scheme.
SECTION 6 – REORGANISATION OF SUPPORT FOR SME FINANCE
ACCA welcomes the move to bring cohesion and coherence to the Government’s initiatives in the area of small business finance, through the establishment of an Investment Directorate within the Small Business Service. Taking informed decisions based on well informed research must underpin the Investment Directorate and the Small Business Investment Task Force in any measures in relation to small business finance.