Oireachtas Joint and Select Committees
Tuesday, 6 May 2014
Joint Oireachtas Committee on Jobs, Enterprise and Innovation
Access to Finance for SMEs (Resumed): Credit Review Office and Chambers Ireland
The joint committee is now in public session. I welcome Mr. John Trethowan from the Credit Review Office to discuss access to finance for SMEs.
I wish to advise the witnesses that by virtue of section 17(2)(l) of the Defamation Act 2009, witnesses are protected by absolute privilege in respect of their evidence to the committee. However, if a witness is directed by the committee to cease giving evidence in regard to a particular matter and continues to do so, the witness is entitled thereafter only to a qualified privilege in respect of his evidence. Witnesses are directed that only evidence connected with the subject matter of these proceedings is to be given and are asked to respect the parliamentary practice that, where possible, they should not criticise or make charges against any person, persons or entity by name or in such a way as to make him, her or it identifiable. Members are reminded of the long-standing parliamentary practice to the effect that they should not comment on, criticise or make charges against a person outside the House or an official either by name or in such a way as to make him or her identifiable.
I invite Mr. Trethowan to make his presentation to the joint committee.
Mr. John Trethowan:
I sent in only one document prior to the meeting. I have used it extensively when making presentations to small business groups and accountants and so on. It might be helpful for members to see on one page how we assess appeals to the Credit Review Office. I will highlight a couple of columns in the document because it might be helpful for members to see how a banker thinks at times. The gearing column shows the bank versus other stakes in transactions.
If someone asks a bank for 100% finance, the likelihood is that they will not get it because the bank would be taking all the risk. If a bank lent me €1 million this evening, I would sleep a lot easier than it could. Banks now typically look for a 30% stake from someone else other than themselves being put towards the transaction. Sometimes when SMEs approach the Credit Review Office, this level of funding by the business is not enough.
Very few loans of any substance will be made without security. Banks have returned to being cash flow lenders but I would add the caveat that it is cash flow with security so there must be some element of fallback. In the left-hand column, we can see the capital account and reserves of many businesses that come to the Credit Review Office are very small.
Mr. John Trethowan:
I apologise as I thought everyone had this one sheet in front of them. I will return to it and go on with my 13th report which was issued several months ago.
The reasons for appeal requests for credit are now for working capital increases and for business investment. In the initial years of the office, the main reason was about survival. It is a positive note that the shift has moved from survival to investment.
We are seeing some demand for re-financing debts held by foreign banks which are exiting the Irish lending market. This is a cause for increasing concern as the supply side is becoming super-concentrated and we are down to the two pillar banks, Ulster Bank and PTSB for re-financing. Danske Bank is getting out of Ireland rapidly. Some of the appeals coming to our office are from Danske customers who are having great difficulty in getting finance from the other banks. This issue will become more significant in 2014 and into 2015.
Ireland has many family-controlled smaller businesses which does not lend itself to equity finance. The reliance on our banks will, therefore, remain high. We are trying to see what else can be done to increase the supply side for businesses. There are some new entrants appearing on the horizon but they are so small that they will not be game changers. New entrants in debtor finance could be very valuable to some small businesses which try to grow off their current capital positions.
The main banks probably have enough new safe business to achieve their business objectives without having to extend themselves with higher risk business. This, again, is a cause for some concern.
A recent Small Firms Association survey showed 40% of its members lacked confidence in approaching a bank for finance. There are several initiatives to increase the capabilities of smaller businesses to interact with their banks. Skillnets runs a regional programme on building financial capacity in small businesses. Attendance by the SME sector has been disappointing, however. I encourage small businesses to take these courses up as the skills on offer are required. The Department of Finance and others have been working on a business database. There are several State supports from the different Departments. Trying to find out how to access them has been very difficult for a small business, however. It will all be brought together in a simple interface whereby a business can enter its size, location and activity which will then bring up all available supports.
The office had a monitoring role of the pillar banks’ lending targets until last year. There has been some debate about the targets being removed. The diligence by which we are watching performance has not been removed, however. We now have four years of monthly trend performances collated. Accordingly, we have a fair idea of what to expect and when. I am pleased to report that in this year's first quarter, they had their best first quarter loan-sanctioning performance of all five years of monitoring. Given the three months that has transpired, both banks are in line to achieve or exceed last year’s performance in sanctioning lending. This may be helped by some of the re-financing they are doing from other banks.
We also continue to see a substantial amount of old loans with the banks being paid off. While they are sanctioning a lot of new money in the market, there is still a fair tide of old money being repaid from old loans. This is making the growth in their balance sheet sluggish.
Individual formal meetings take place each quarter between the pillar banks and the Department of Finance and the Credit Review Office.
I will return to the diagram I was discussing earlier as it seems to have been circulated to members. This is a one-page model that we have been using with trade bodies and accountancy practices in professional development seminars. Looking further down the sheet, members will note there are also other sources of finance such as government and non-government sources which can sometimes help finance a deal and make the gearing more attractive.
There is a view there is too much reliance on bank funding in Ireland and that other countries manage to finance their businesses with much less bank intervention. We have a predominance of very small businesses in the SME sector, many are family-owned and do not want to give up any equity control to someone else. This is a challenge, but if we can find a way to get non-bank finance for the amount which SMEs demand it would be helpful.
Many businesses which come to the Credit Review Office have negative capital because their reserves and capital are gone either through losses incurred in the past four to five years or property plays which went wrong. This does not mean the businesses are irrecoverable but they will have to be nursed back to health and this is a challenge as a number of banks have withdrawn and the businesses now rely on a small number of banks for finance.
With regard to going concern part of the graph we examine the balance sheet to test the quality of all of its parts as well as the profit and loss accounts of the businesses and its trading performance. We do this to establish the amount of free cash available after the profit and loss accounts have been considered to finance the repayments on the new loan being requested. If we can see enough free cash to service the loan we will ask the bank to make the loan. The key question is whether the bank or any other investor will lose money on the loan in the foreseeable future. It might not meet bank policy, but if we can see the loan is reasonably safe and cash can reasonably be expected to flow we will encourage the bank to make the loan. I apologise if I was disjointed but I hope I have given the committee a feel for the issue.
They came before the committee two weeks ago and made presentations. They acted as though they were very hungry for business and claimed they were eager to find new business and could not get enough of it. This is interesting.
I welcome Mr. Trethowan and I commend him on his work to date since 2010. Four years on there still seems to be a lack of awareness of the office. Does Mr. Trethowan have any thoughts on this? Does Mr. Trethowan receive support for his office from the banks? Is he sure when they decline a loan they pass on information about the office or is Mr. Trethowan picking up, as many of us are, that they are not so much declining loans as putting so many hurdles in the way of drawing down a loan that the customer may not do so? These delays between sanctioning a loan and drawing it down are not considered a refusal.
Mr. John Trethowan:
Approximately half of our budget goes on advertising. We advertise extensively on the radio and in the media to ensure there is awareness. Knowledge of the Credit Review Office was at 67% in the most recent Department of Finance half yearly survey. Having stated this, it had reduced by 6% from the previous six months. The survey also found 64% of SMEs responded they were not made aware of the Credit Review Office by the banks, so we still have work to do to get the message through to SMEs that we are here and about what we do. The banks also have more work to do to ensure when they decline an application that the Credit Review Office is prominent. Recently we became aware that on the first refusal one of the banks advises customers of the microfinance scheme but not the Credit Review Office and we have sought a meeting to try to address this.
Mr. Trethowen mentioned family-controlled SMEs being a particular feature of the market here and one of the graphs shows failed investment plays and failed business investment in better times. This is a major problem for many viable businesses.
Mr. John Trethowan:
It is a major problem. In the good times cash was plentiful, loans were easily got and the reserves of some good businesses were put into buy to let properties and extra borrowing was taken to buy more. We ask companies with a guarantee or single sole traders for a statement of assets from the promoter of the business. During the office's first years we routinely saw a portfolio of buy to let properties whose values were under water as against what they were bought for and which had lending against them whereby the repayments were more than the rental income. Instead of having liquid reserves which could be brought into the business when needed these reserves were stuck in fixed assets which had declined in value and were sucking cash out of the business.
The second scenario, for which I have much more sympathy, is that prior to 2008 many businesses were growing strongly and required new premises or showrooms and they invested to meet the demands of the market at the time. After 2008, when domestic demand collapsed and Government spending decreased, they found the value of the loan was the same but the property had halved in value and their turnover was down and so they found themselves in difficulty. We still find this today with quite a few businesses which are trying to recover from this hit on their capital. This is exacerbated by the banks which are exiting because they crystallise the situation in asking for refinance. They are getting some write-downs but the proprietor must try to find a bank to take on the business. We are finding it extremely difficult to get some of these businesses refinanced.
Is Mr. Trethowan comfortable with the notion the pillar banks no longer have targets? How will we keep them honest? It is my view they played ducks and drakes with the targets and what they constituted as new lending was really relending and refinancing. We have no idea of the targets. How will Mr. Trethowen convince us and the business community that the banks are actually lending? He states they are lending-----
Mr. John Trethowan:
When the targets were set we did not know how the system operated. We did not have a feel for the sanctioning activity of the banks. We have had monthly activity reports for the past four years and we know when to expect lending to happen, which is generally quarter four. The monthly figures we receive are put on charts and compared to the previous years and we have a feel for where we will end up this year. If we felt it was going backwards we would meet the banks immediately. The targets served a purpose when we did not know what was happening next but now we have a good feel for what to expect. I believe the targets became superfluous. With regard to ducks and drakes, in 2010 and probably 2011 some of the activity was in refinancing, but it was still viable as if the refinancing had not taken place many enterprises would have gone out of business.
A lot of businesses were put out of business at that time. Over the last couple of years the Central Bank has been asking the banks to tidy up their legacy book. That is an exercise which has been gone through and has been reported to the committee. It is now either new lending or it could be refinancing as well but because refinancing is so important to so many businesses I think it is valid to have it included there as well.
Mr. Trethowan speaks about the market for SME and farm loans being highly concentrated and the relative lack of competition and says it is not conducive to raising what he defines as the low-risk appetite of banks which is required to support the needs of the real economy in the recovery. Will he expand on that?
Does Mr. Trethowan have any role in pushing the banks and the Government to look at, first, different kinds of financing such as crowd financing. What are his thoughts on Microfinance Ireland and the credit guarantee scheme?
Mr. John Trethowan:
Every new source of finance has to be welcomed, whether it will be significant or not any player in the market will be welcomed. One area that could be helpful, but it does carry a bit of a historical stigma, is the old debtor financing or factoring. It comes under a lot of different names such as commercial finance, debtor finance or factoring but it is invoice discounting and what that does is it lends not against the strength of an SME but against the strength of the debtor. That could be Tesco, Dunnes Stores or someone whom one could lend against more easily. Debtor financing could be helpful for a business which might not qualify for bank financing. It could be the answer for a growing business. It is a bit more expensive but the access to cash or capital would be helpful for them.
On non-bank funding, the NPRF funds are welcome. The work the Department of Finance is doing in non-bank funding to try to access new sources of finance will be helpful as well. The challenge is that given the size of the businesses which predominate in the SME market – we have 200,000 SMEs but 90% of them employ less than ten people. The amounts they need to borrow are a lot less than equity finance would require so it is a matter of trying to find some method to salami slice the credit that becomes useful for that size of business as well.
On the loan guarantee scheme, part of the team has been looking at reinvigorating the scheme. We could see where it did not work from when we were trying to find solutions to specific SME problems. We brought them to them to the attention of the Department of Jobs, Enterprise and Innovation and it has taken them on board. Everyone is learning on all of these things and I hope the next phase will address much of what has been learnt from the first wave.
The microfinance scheme is proving very helpful for start-ups and for some small businesses, even in terms of producing part of the stake. If the banks are unhappy with the level of gearing and the stake, sometimes if Microfinance Ireland is involved with them it lets them make a loan as well. The sum of €25,000 might be too small an amount. It might need to be increased to €50,000. In addition, the term of the loan could be looked at to lengthen it to make the repayments a bit easier for new businesses as well. The longer the term the less the monthly repayments will be.
Debt and borrowing are some of the most important issues affecting SMEs in the State. We hear a plethora of different views. We hear from the representative organisations, people like Morgan Kelly, the banks and the Department among others.
Given that it is the understanding of most people that the system is not functioning in a normal way and that other voices say it is still very difficult to get a loan, I am amazed that three to four years later the response to it is so small in term of the number of people accessing the credit reviewer’s services and that of Microfinance Ireland. It seems shocking that this is such a pivotal issue and yet the use of all of the solutions that have been provided is so minimal.
Mr. Trethowan spoke about the level of refinancing that is happening, for example Danske Bank leaving and refinancing and some of those businesses not being able to get refinancing. Do we know what the figures are, whether there is €200 million worth of refinancing or €1 billion? We do not know the numbers of applicants who have not been successful.
Mr. Trethowan referred to the increased concentration in the industry. We are losing lending capacity. Are there figures to indicate what lending capacity we are losing? Is it 10%, 20% or 30% of the lending capacity in the State?
Mr. John Trethowan:
On the numbers coming to the Credit Review Office, we do all we can to encourage people to come to us. We publish endorsements on my reports. Anyone who has come to us appears to be pleased with the service they get. All I can do is encourage any SME that feels that it is viable or potentially viable to come to us.
Mr. John Trethowan:
We meet the trade bodies as well as the banks. They encourage their members to come to us. There may be a reluctance to come to us for fear of antagonising the bank. Given a situation where the market is concentrating, if one loses one’s relationship with one’s current bank it might be difficult to find another one. That is the only assumption I can make. If I am made aware of any bank that has taken a view on a customer that because he or she has gone to the Credit Review Office that they will be penalised I would take it up with the Department of Finance to address it with the chief executives of the banks. I do not have any evidence that is the case. I do not believe anyone who has come to us has subsequently been unfairly treated by the banks.
The Deputy’s second question was on the overall capacity of the system.
Mr. John Trethowan:
All I can say is the amount of refinancing that will have to happen will be whatever the size of the Danske Bank SME and farm balance sheet was. I am not aware of the exact amount of that but it could be found among Central Bank statistics. I must add the caveat that I only see cases that come to us that have not been addressed by the banks. There could be people who are going to the pillar banks or to Ulster Bank to be refinanced and because their business condition is okay they are having no problems with getting refinanced. I only see the cases that have a challenge that come through to us and, of course, I do not see them all.
Deputy Tóibín had a third question.
One question related to the level of refinancing that is taking place. Mr. Trethowan said he does not have a figure in that regard. There is also the issue of the level of refinancing that is not happening. In other words, those who have functional lending with let us say Danske Bank and the lending needs were not met by any other player so therefore their capacity to trade and to provide jobs is reduced.
Another issue relates to the total capacity of lending within the market and the effects of that.
I have a question on the same issue in terms of restructuring. When we had AIB and Bank of Ireland before the committee, from what we could deduce from AIB, it was saying that it included the restructuring of loans in its target. Bank of Ireland seemed to be way ahead. It seemed to have had a 90% offer of restructures as opposed that of AIB, which is around 25%.
Mr. John Trethowan:
At the beginning of the monitoring, there was much more restructuring in the figures that were coming from both banks, to be honest. Since the Central Bank took an initiative to deal with the restructuring, we have been seen much less restructuring. That is clear in the figures that are coming through to us at present.
I would like to ask Mr. Trethowan about some other elements of this matter. Debt distress within SMEs is meant to be a sleeping giant in this regard. It is keeping expenditure, growth and development down at the moment. It is a potential threat into the future. Does Mr. Trethowan have a perspective on that, based on the work he is doing? The issue of banks engaging in filtering before they give a formal negative response to a loan query is of relevance in this respect.
Mr. John Trethowan:
I certainly think some sort of pre-filtering must be going on. The sanction percentages we are getting are very high. I think the loans are being casually refused at the bank counters before they get into the system, or else some sort of pre-filtering is happening. The level of sanction activity that is being reported to us is very high in percentage terms. Deputy Tóibín also asked about the share of the market enjoyed by each of the banks that are left. When I started out in 2010, I reckoned that the two pillar banks had approximately 60% of the market, Ulster Bank had between 10% and 15% of the market and the rest of the foreign banks had the rest of the market. The concentration of the market is now much more intense. The two pillar banks are probably carrying 80% of the market.
Mr. Trethowan mentioned businesses that have functioning elements but need a certain degree of nursing to get back to health, perhaps as a result of property deals going wrong or other capital elements losing their value. Has he seen any structured form of nursing to bring these businesses back to health? Is it a case of whatever the individual business experiences?
Mr. John Trethowan:
Yes. That bank looks at the performing element of the business and sees what can be done to deal with the rest of the business over a period of time. I am not sure whether Bank of Ireland has the same sort of formalised structure in this respect. One would have to ask the bank. AIB certainly has such a structure in place.
I welcome Mr. Trethowan. He mentioned earlier that there can be problems with cash flow, rather than working finance. Is this not anticipated by the traders and the SMEs? Is there a lack of professionalism in that area? Are the reasons the banks give for their refusals logical? Do they seem understandable? The banks seemed to be far too lax in the past. On the basis of what Mr. Trethowan has said, it now seems that they are far too strict. Are the banks looking for guarantors? Since we changed our television set-up at home recently, we have been getting the British advertisements rather than the Irish ones. It is interesting that every second advertisement seems to be offering a loan. It is easy to get a loan from one of these companies as long as one has a guarantor. It strikes me as unusual to assume that someone who wants a loan will automatically have a guarantor to guarantee him or her. Mr. Trethowan said "we will encourage the bank to make the loan". What sort of encouragement does his office use? Is it a case of the carrot or the big stick? What does the office do? How does it manage to encourage a bank to give a loan?
Mr. John Trethowan:
We do not engage in strong-arm tactics. Senator Quinn asked an excellent question about cash flow. The SME sector is a very broad church. It includes microbusinesses, small companies and medium-sized businesses. It can include quite large businesses at times. In general, we get good cash flow information from SMEs that have finance directors. At the level beneath that, which might involve a sole trader or a partnership of people who are trying to act as finance directors while running the business, it becomes much more problematic. In the same way that accounts are normally produced for the tax man or for the purposes of a tax clearance certificate, some SMEs feel that cash flow forecasts are produced for banks in order to get loans. They do not use them for information management purposes, or to make sure they know where their business is going. That is part of the reason the Department of Finance is holding seminars throughout the country. It is trying to increase the ability of those involved in SMEs to run their businesses as well as possible. If one provides cash flow information without knowing where one's business will be in six or 12 months, how can the bank know where one's business will be? It is entirely legitimate to request a business to run a cash flow analysis.
The Senator asked why loan applications are declined. I think that matter will have to be addressed. The code of practice for SME lending is being reviewed. I think the reasons for declines will have to be made much more explicit when banks sends letters to potential borrowers. They claim they always phone people to tell them why their loan applications have been declined. The letter the customer receives in writing is generally generic in nature and does not set out the specific reasons he or she was declined a loan. In the cases of the appeals we see, we find out what issue the bank was having with the customer. When we tell the customer this is why the bank did not sanction the loan, it is usually the first he or she has heard of it. I think an improvement can be made in that regard if it is needed.
The Senator also asked about guarantors. It is made clear in the model I have provided that the banks will always look for some sort of security. They like to see tangible security. In the case of a limited company, the first thing the banks will do as a guarantee is try to tie in the personal liability of the promoter. They will not just take any kind of guarantees from a third party. I could provide a guarantee for €1 million today, but I would not be good for it. They are looking for some sort of tangible collateral that underpins the guarantee and will give them comfort if the loan goes bad. Can the Senator remind me of his final question?
Mr. John Trethowan:
Yes. I do not have statutory powers to make the bank put a loan on its balance sheet. I can issue an opinion and, from time to time, we can have a debate about the opinion. We might have teleconferences and stuff like that with the banks. I have no powers to compel a bank to make a loan. In most cases, we find that the banks will come with us if we present the information. In general, our reviewers are able to produce a better proposal than the initial proposal that was made to the bank.
I thank Mr. Trethowan for coming in. The key statistic in the reports that he has given us recently relates to the number of people who are appealing the decisions on their loan applications. We have trying to transmit the message that this service is available. We have been told that 55% of appeals are decided in favour of borrowers. What reasons are given by the banks to explain their failure to allow these loans to progress naturally? What can the committee learn from that? We are keen to direct SMEs in a way that will ensure this does not happen to them when they approach banks.
Mr. John Trethowan:
The number mentioned by Deputy Lawlor relates to formal appeals that have been made through the Credit Review Office. We do not score anything else. I handle many queries from bank customers with the help of the person on my help desk and my deputy. We refer each query to the bank, mentioning that someone has phoned us about the matter and asking the bank to take a look at it. It frequently happens that we are told "it is okay, we can do that now". We do not score those cases.
That is important information. It should be out there as well. It should be generally known that when customers contact Mr. Trethowan's office, it follows through on the process. It is able to take a softly-softly approach, if appropriate.
Mr. John Trethowan:
I was asked what we do that the borrower did not do in the first place when he or she was looking for a loan. We are bankers, so we know what a bank is looking for in an application.
If it is not in the initial application and the bank has not asked for it, my reviewers would speak to a borrower on the phone or perhaps visit him or her. If a farm is involved, they might have a look at the farm, etc., in order to get a feel for the issue. Frequently, we find information that a bank would not have in an initial application, and that goes to the other aspect of what we do. If at any time a bank indicates it did not know about an asset but would have approved a loan if it did, we would withdraw from the process at that stage. Our objective is for the borrower to get credit and not for me to have a number on a sheet of paper. Once the potential borrower gets the credit he or she needs, either through a formal application or informal means, we are happy.
The office considers appeal cases and 45% of them are not sanctioned. What are the main reasons for the office to agree with a bank in such cases? Would poor applications be an issue? When the office recommends that a bank reconsiders a case, does it give advice to an applicant to do a business plan again or include more information? Is there an advisory role in this respect? I have stated on previous occasions that the office may have a role even earlier in the process, before potential applicants seek a loan, to give advice on how to complete forms in the first place. When the office makes a decision, what happens? Does an application revert to the bank as it is or are changes made to the application before the bank makes a decision?
Some of the bank representatives came before Oireachtas committees. Some of them indicated that a number of reviewed or appealed cases which subsequently saw loans granted later saw the debtor defaulting on debts. Does the office monitor such issues or does it have any idea of those figures? Indications were given here which more or less gave the impression that a high percentage of appealed cases later saw defaults. I believe it was approximately 20%.
Mr. John Trethowan:
I thought the members might ask about that. We uphold approximately 45% of applications that come to us and in some cases there is a deficit we cannot repair, with a business gone too far into decline or a start-up with insufficient experience, for example. Sometimes people have a great idea but there is no capital, and most small and medium enterprises would face a significant challenge in the first two years of existence, with half going down. If we have somebody with a good idea but no experience, we would be very cautious. It is not my job to get people to borrow money.
Sometimes we deal with businesses which have not recognised that the last four years required management action to repair a business; turnover may be falling but these people may still have a BMW outside the premises. If a business has consciously tried to address a challenging position, we will do everything we can to help it but we will not do so for those which are sleepwalking through the process.
I am not sure we can get in front of the issue of advising an applicant as there are too many people out there. The Government is doing work on this through seminars to raise the capability of small and medium enterprises in presenting a more cogent application to banks. We would also look to the new local enterprise offices, LEOs, to help businesses improve applications to banks as well. We come in after an initial application and we could improve it if it has merit but could have been better presented in the first place.
Mr. John Trethowan:
Yes. The fees for the Credit Review Office range from €100 to €250 and one may get consultancy worth more than €1,000 from a reviewer on the way through. When appeal cases are successful and subsequently go into arrears, we have done some research and our figures are lower than what has been quoted in this room. I will use the figures used by one of the banks that a third of the appealed cases had gone into arrears subsequent to us asking for the money to be loaned. To turn the figure around, that means two thirds of the appeals were good, and that is after they came through a bank's initial credit process, were declined, and went through an internal appeals process. I dispute the figure of one third of cases going into arrears, but even if it is used, two thirds of the appeals that came to us should have been granted credit in the first place.
It was mentioned that approximately 80% of lending happens through the two pillar banks. That is my understanding of the structure of the market. It was also mentioned that 55% of applications coming to the office are given the go-ahead. Which bank is the worst for sending appeals to the office?
Mr. John Trethowan:
With regard to appeal outcomes, there is no difference. Each bank has a different culture and feel. It would be typical for any organisation.
I did not ask the Chairman's question about conditions that are applied. The trade organisations are finding conditions are being placed on lending by some banks, which is making it difficult. This concerns life assurance and guarantees which may not be expected. It is an ongoing debate. A person can appeal to the Credit Review Office if the feeling is that conditions amount to constructive refusal.
If the banks are not encouraging a person to appeal to the office when he or she is turned down initially, there is probably complete ignorance on the part of the borrower that a loan process being made more difficult than it should be can be appealed to the office.
Is there a counterpart office to the Credit Review Office in other jurisdictions, such as in the UK? How do they rate and who promotes their services? Has the Credit Review Office considered working with the Revenue Commissioners, which has the ultimate business database?
Mr. John Trethowan:
Each major economy in Europe now has a credit review function and the UK has a credit reviewer which deals with Northern Ireland. I work with him in Belfast in trying to bring some of the good practices from here to the North. Having seen what is being done here, they think they could do more in Northern Ireland. There has been a minimum amount of appeals in Northern Ireland, at 65 in two years. There is a reluctance to appeal by small and medium enterprises which apparently extends across Ireland. The UK reviewer does his job differently as he examines the banks' internal appeals rather than intervening directly with borrowers; we are much more hands-on with small and medium enterprises here.
I thank Mr. Trethowan for coming today for a very useful discussion. We are considering the area of access to finance, including different methods of access to finance. We are examining dependence on traditional banking, as well as other methods. We hope to make a report on this in June or July, and we may feed back to the office in the meantime. I know we did not get the office's figures but we may come back to it if there is a need to correct the banks' figures. We will chat to Mr. Trethowan in future and the office should keep up its good work.
I welcome Mr. Seán Murphy from Chambers Ireland, who will discuss access to finance for small and medium sized enterprises. I know he also wishes to discuss other issues, such as procurement etc., and we can do that at another meeting, if he so wishes. He will return in June. Before beginning the presentations I must go through the procedures. By virtue of section 17(2)(l) of the Defamation Act 2009, witnesses are protected by absolute privilege in respect of their evidence to the committee. However, if a witness is directed by the committee to cease giving evidence in regard to a particular matter and continues to do so, the witness is entitled thereafter only to a qualified privilege in respect of his evidence. Witnesses are directed that only evidence connected with the subject matter of these proceedings is to be given and are asked to respect the parliamentary practice that, where possible, they should not criticise or make charges against any person, persons or entity by name or in such a way as to make him, her or it identifiable.
Mr. Seán Murphy:
I thank the committee for its valuable time. It is worth reiterating some points the committee may have heard before, such as that 99% of all businesses in the State are small and medium enterprises, SMEs, so they play a crucial role in securing employment and the economic recovery. There is no overestimating the scale of the challenges they face, and we have divided those into five, which are cost of employment; the ongoing local government charges burden; an ongoing decline in town and village centres, especially spreading from the west to the east; weak consumer confidence and poor domestic demand; and access to finance. SMEs tend to operate in the domestic sector and have consequently been hit hardest by the downturn. The committee is probably aware of the recent ESRI study which made the point that we are unequalled in the OECD, excluding Iceland, in the level of peak to trough decline in domestic demand, with a fall of 20% since the downturn began in 2007.
We were asked to address sources of finance and the Central Bank distinguishes between bank credit flows and non-bank alternatives. As the committee is probably aware, we contend that the main sources of finance are direct Government interventions; bank lending, which is the most crucial and largest contributor; and individual or group investors and other alternative sources of funding. Each of these present specific challenges for SMEs.
With regard to direct Government interventions, there is the microfinance fund and the partial credit guarantee scheme, which are worthwhile and welcome. We campaigned for the partial loan guarantee scheme when it was initiated. Our view has always been that this is about getting people to look up, look out and go down to the bank to fill in a formal application, with a proper set of accounts, and go about the process of securing bank lending. That is the big game in town when it comes to financing. The partial loan guarantee scheme, while worthwhile and beneficial, has seen a tenuous drawdown. That is not necessarily a criticism but it concerns what we are discussing.
Data from a recent survey carried out by our colleagues in Cork Chamber of Commerce indicate the number of businesses reporting difficulties in managing cashflow continued to rise throughout 2013. That relates to a lack of working capital, which has had an impact. As the downturn progressed, many Government schemes were initially about investment capital when the big challenge was working capital, as slow payments by everybody affected all business. It was the big issue. We are looking forward to the next Red C survey this month as the sense we are getting on the ground is that investment demand is up in a significant way despite being pretty sanguine in the past. We are looking forward to seeing what that means in future.
The Cork survey also indicated that 68% of all businesses do not think there has been any major improvement in supports for businesses and SMEs over the past 12 months. That should be of considerable concern for the Government, given the amount of rhetoric and effort put into new schemes. There is an awareness issue, and I know Mr. Trethowan from the Credit Review Office was before the committee earlier. It has had multiple advertising campaigns and we have profiled them but businesses are still not aware of this issue.
That is a training challenge and we all have a role to play in that regard.
We recognise that the microfinance fund has been established. However we note the statistics show that fewer than half of all applications are approved and the impact on job creation, while welcome, is limited. Accordingly, we would recommend the expansion of the scheme to a broader range of businesses beyond Microfinance Ireland, MFI, just in terms of giving more options for businesses. We have also made a number of recommendations regarding the loan guarantee or partial credit guarantee scheme. They include increasing the level of guarantee, because at present the level of guarantee is quite low and is often not enough to get a credit application approved; increasing the number of financial products and sectors available for support from the scheme, because currently facilities such as overdrafts and restructures are excluded along with a number of sectors such as agriculture, and given that working capital is one of the core vital issues, we would see that it has a role to play in helping that area; removing the requirement to apply for a bank loan and have it rejected prior to availing of the scheme, which should not be strictly necessary in that if people want to avail of a scheme set up by taxpayers, they should be enabled to do so; and crucially, an increase in the term of the guarantee to at least five years, given that many business loans are for periods that are longer than three years, with five years being a typical period. Accordingly, we believe the term length of the guarantee needs to match normal loan provision.
Bank lending remains one of the most problematic areas for SMEs. Our view is that the successive surveys of Mazars and its successor, Red C, undertaken and commissioned by the Department of Finance with a significant number of participants - approximately 1,500 - are the most statistically accurate surveys available. They are not opt-in surveys; the businesses were contacted. That is a crucial issue in terms of getting the best possible result. We look forward to the survey for October 2013 to March 2014 that will come out on 12 May. The results from the most recent survey bear repeating. In the six months to September 2013, there was a marked improvement in the trading conditions for Irish SMEs with improved turnover, profit and staffing levels across different sizes and types of SMEs. However, more than one in four companies remain in challenging conditions. That is symptomatic of the overhang of the downturn, but it is worth noting that we are seven years into the downturn, so if those businesses have survived, they must be doing something right.
At this stage, rather than resulting in an increase in credit demand, these improved trading conditions have led to a reduced level of demand among SMEs in general, as working capital demand for struggling smaller SMEs reduces. Sentiment among SMEs for the future remains cautious, which could be interpreted as meaning that this apparent reduction in support demand has not as yet been replaced by growth demand. Our view is that the commentary from which we quoted on the last survey will change because our sense is that growth demand will be a lot better in the next six month report.
The overall approval rate for those seeking credit has improved. That may be as a result of those in more financial difficulty not seeking credit at this time as trading improves. The banks have also increased the number of credit decisions in the agreed timeframe and ensured that fewer SMEs can claim they were not told why they were declined. However, SMEs are claiming that more conditions are being attached to agreed credit. While demand is down, there has been a continued improvement in the perception of whether banks are lending to the sector. Significant gains were evident in the last report. However, the belief that banks are not lending remains an issue, with a significant minority - 7% - of SMEs not applying for credit because they believe banks are not lending. That is disheartening. Our view is that SMEs should get training to fill in loan applications properly, get the data they need in terms of cashflow, make a formal application and, if it is rejected, they can go to the John Trethowan organisation, the Credit Review Office, and make the proper appeal. It is disappointing that some firms are discouraged from even doing that but that is what is happening according to the commentary we hear. We contend that the only sure way to address the issue is to encourage businesses to complete the full loan application process and, if they are rejected, to appeal to the Credit Review Office.
Solid progress has been made but businesses that have banked or are currently banking with banks exiting the Irish market face a refinancing opportunity or threat. That is a major challenge for the discrete number of businesses that are in such situations. The big challenge is to ensure the remaining banks in the market have the appetite to take on those businesses. Unfortunately, there are not many statistics in that regard but, anecdotally, some banks are more aggressive than others in terms of the write-downs being offered as they exit the market. That is both an opportunity and a threat.
We have consistently profiled and supported the work of the CRO around Ireland and throughout our network. However, it is difficult to ignore the fact that despite the best efforts of many organisations and even the advertising campaigns, the number of appeals to the CRO is very low. The committee has heard the statistics in the past hour.
In terms of alternative sources of funding, we recognise that angel investors, crowd funding and other sources of finance can help SMEs survive, grow and develop. That said, it is our contention that, while welcome, they will play only a relatively small role in the business funding landscape. One sector in which we see huge opportunity - we profiled it in our last pre-budget submission - is the enterprise investment and incentive scheme, the successor to the business expansion scheme, BES, and also the seed capital scheme. We will complete a submission on the issues later this week and we will profile them in our pre-budget submission.
The other big take-away from our perspective is in the training sector. It is clear there are still skills gaps in too many Irish SMEs. Given the changed financial landscape, businesses have to upskill their financial analytical skills to enable them to talk the talk regarding securing new bank finance. We note that the national training fund, NTF, is gathered via a compulsory levy on all employers of 0.7% of salary paid. That amounts to approximately €350 million per year. The vast majority of the money is currently devoted to training for employment. Virtually no funding is available to employers to upskill either their management teams or staff. That does little to assist firms at a time when they need it most. Accordingly, we continue to call for moneys to be made available under the NTF to be ring-fenced to support owner-managers and their management teams and those who are specifically in employment to upskill themselves on cashflow analysis to enable firms to carry out the required cashflow analyses needed to complete a full and comprehensive loan application and talk knowledgeably to their banks.
We will talk about procurement in greater detail. The Government could give consideration to paying automatically the relevant interest surcharge for late payments made not just by public service Departments, but also by sub-entities of Government, such as the HSE, which I use just for the purpose of giving an example. In that way we could support businesses in their everyday cashflow, thereby reducing their working capital requirements. If the Government automatically paid the surcharge, it might be very beneficial rather than expecting a business that is selling into the entity to ask for the surcharge, which can be difficult when it is a significant customer. That is our perspective on the matter.
I welcome the witnesses from Chambers Ireland and the clarification that has been brought to working capital, which is an issue that seems to get lost in the discussion. What are Mr. Murphy's views on competition in the SME market and banking? What proposals would Chambers Ireland make on a new force in banking and different styles of banking?
Reference was made to the low ratio of appeals to the Credit Review Office. Is there a view among businesses that they are afraid to appeal a bank's decision? Is the CRO a bit like the cigire, the school inspector, in that if an appeal is made, the bank will take it out on the business? What can the Credit Review Office do to promote itself? How much would the proposal on late payments cost the State per year?
Mr. Seán Murphy:
In terms of competition, that is one of the big challenges. This is a personal view but retail banking will have to be treated as a strategic utility in the future. A strategic utility has different types of growth rates expected of it and regulated for it. Given that we have a population of 4.5 million people, there is not a huge amount of room for a whole lot of players in that area. I note that even in the mobile phone market, despite the best efforts of the regulator to drive competition, ultimately, we are rapidly moving towards three families of mobile phone companies in Ireland. That type of thing happens with such networks. It is more important to have a regulatory environment that ensures best practice and fair practice for all consumers rather than necessarily chasing extreme competition or multiple competition. Part of our challenge in the downtime was things like the 100% mortgage and everything else that kicked in in the mid-2000s that drove other more conservative banks to chase the market and we ended up having to pay for it in significant amounts in latter years. Clearly, the case for additional enterprise-specific skills and enterprise-specific loan skills is quite compelling. As a network we have not come down officially on a perspective on it but the ICC was a worthwhile institution that did good stuff when it was in situand merits review again. We have three significant players and some niche players left in the market.
We do not have the level of diversity and competition we had ten years ago. If one takes the view that deposit-taking banking is a strategic utility, one might feel that the current number is a more credible number to have.
I think I have answered the question about new forms of banking such as angel investing. Regarding the low appeals ratio, I think part of the issue is that seven years into the downturn, there has been a huge throughput of businesses that have hit the wall, unfortunately, and gone bust. The businesses that are still alive are alive for a reason, which is that they have the guile, the product and the customers to keep them alive. I am sure they have relationships with banks that involve some forbearance.
The Deputy also asked about appeals to the Credit Review Office. Many of those involved in SMEs know they are running good businesses, but they have bad balance sheets because of previous property investments they made. They now have to choose between going bust and grinding it out. The businesses to which I refer are in grind-it-out mode. The real challenge will be presented in the next 18 to 30 months if businesses that need investment capital to help them to grow and sustain themselves are still encumbered with significant asset debt from their investments in the early or late 2000s.
The issues I have mentioned are driving the relatively low levels or ratios of appeals. Many businesses know they need to fix and grind down the challenges in their own balance sheets. We are seven years into the downturn, thankfully. It is to be hoped that many of the businesses with which we have interacted are still here. If they are, they will have seven more years of their loans paid off, just like households that are paying off mortgages. I think that is probably the big driver in this regard.
I do not suggest that the Credit Review Office has not played an important role. It has played an important role in terms of being there as an appeals facility. It is important to be able to avail of the services of a referee if necessary. However, it could be fixing solutions earlier in the process. I do not say that to criticise the Credit Review Office for the low level of take-up. I do not believe there is a fear of appealing from the perspective of businesses. That is my personal view. I refer the committee to the issues I mentioned earlier.
I cannot put a price on the quantification of late payments right now. It is more a question of the principle being established. To be fair to the central government Departments, they have speeded up their payment times significantly. We are saying that it is a question of making sure their sub-entities do the same. There is no better way to get that process going than to impose a cost penalty on those who do not get the cheque out the door or, more helpfully, make an electronic payment.
I am glad Mr. Murphy has raised this aspect of the matter. It is not something that has come across our desks, as far as I am aware. It makes sense that one would not go chasing this fee. Perhaps one should. It is not really acting as the deterrent it is meant to be. It is a point well raised.
Go raibh míle maith agaibh as ucht bhur gcur i láthair. During the discussion with the head of the Credit Review Office, I made the point that the lack of credit, the difficulty around credit and the debt distress that exists in the Irish SME structure comprise a big problem. Four or five years into this process, I am shocked that this problem is persisting even with the delivery of solutions such as microfinance and the establishment of the Credit Review Office. The level of demand for those solutions has not increased, for a start. People have very good insights - there is anecdotal evidence of why these solutions are not being used - but we do not have a more solid, tangible or concrete understanding of exactly why the level of take-up is so low among everybody on both sides of the table. That understanding does not exist in the Department and it does not exist in the Credit Review Office itself. That has to be tackled if people are to be able to measure the real reasons and deal with them.
Mr. Murphy made a valuable point about one of the major problems with this whole process. There is a lack of skills in the banking sector when it comes to SMEs and there is lack of skills in SMEs when it comes to the banking sector. I suggest that the local enterprise offices should be used as a major platform to deliver those skills across the whole enterprise sector. I know the county enterprise boards delivered a great deal of training to start-ups in the past. Once a business has started up, it very seldom plugs into the county enterprise board structure again unless it needs a specific skill. Maybe there should be a strong push to get the local enterprise offices to deliver these financial skills to businesses for the purposes of developing healthy functioning businesses and helping them to understand and engage properly with the credit world.
It is a big shock that cash flow is still getting worse, even at the so-called end of the crisis. It is a big difficulty. Does Mr. Murphy have any figures with regard to the cash flow experiences of businesses? How many businesses are falling off or closing as a result of cash flow issues? Mr. Murphy alluded to the debt distress issue when he suggested that a foot is being placed on the neck of future investment. People like Professor Morgan Kelly have spoken about the possibility of many SMEs being pushed off the desk, with regard to their functioning, if the policies of the ECB change. What is Mr. Murphy's understanding of the depth of debt distress within SMEs? How is the reduced capacity and reduced refinancing within banking affecting the members of Chambers Ireland?
Mr. Seán Murphy:
I will begin by responding to the Deputy's question about the low level of take-up. As I said earlier, the vast majority of SMEs in Ireland are trending towards being micro-businesses rather than being medium-sized businesses. As they operate in the domestic market, their customers are mostly domestic consumers whose pockets have been raided significantly over the last eight years as we have sought to balance the national finances. That is not leading to a great deal of expenditure. It is striking to examine the statistics showing how many car sales are still paid for in cash, as opposed to debt finance. It was clear to anyone who listened to "Morning Ireland" this morning that consumers have taken a major shock and are now saving before they spend.
The other unquantifiable is the rhetoric about raising the retirement age, which is probably endorsed by all of us. If that happens, consumers will have to fund their pensions for longer than they did before now. If people have to do more precautionary saving, this will have a direct effect on local domestic expenditure. The low level of take-up is intimately related to the low level of demand, which is intimately built on confidence. As confidence is finally improving, thankfully, we will see further demand in that area in the future.
We have welcomed the arrival of the local enterprise offices. Many chambers worked very closely with the city and county enterprise boards. We look forward to that practice continuing in the future. We believe the local enterprise offices should work very closely with the local business representative organisations that have the necessary links. That would be better than the offices doing this work directly themselves.
The big challenge for the owners and managers of SMEs is to decide whether to trust local enterprise office employees, who work for the local authority, with their accounts, given that their businesses will be taxed by that local authority next December. That is a perennial challenge that we are going to face. How open will the officials be when businesses want to talk about these things? I have to say that is a big question.
Our view is that if businesses are paying €350 million into the national training fund, some of that funding should be ring-fenced for them to access and they should be able to choose what is best for them in securing training. They do not want somebody in a local enterprise office who might not have ever run a business to tell them how to best improve their cash flows. Our view is that the real issue is the need for a fund that businesses can access to be put in place.
The big issue with regard to cash flow is how it is funded. If one encounters an uptake in demand, one will have to order more stock so that it can be sold. That is where cash flow becomes a little more strained. As the demand for one's product increases, one has to wait for payments. It might seem paradoxical to suggest that part of the reason cash flow is more constrained might relate to the upturn. That is where working cash flow becomes a challenge.
I guess the real way to look at the issue of debt distress is to examine the official reports the banks have produced setting out the levels of SME debt distress they have on their accounts. It is a big challenge. I hope the position in this regard will improve as asset values increase. They are increasing at present, particularly in the Dublin and east coast region, in parts of Cork and in other strategic parts of the country.
Those statistics are out there and are equally a big challenge. Equally, the banks will tell us that given that their operations are predominantly domestic-focused, they have a vested interest in keeping these businesses going. We need further consumer confidence and consistent consumer spending, as well as fewer raids on consumers’ pockets through more taxes. With growth and employment, we will start to get a more balanced economy.
Earlier, Mr. John Trethowan said the Credit Review Office has a softly-softly approach when dealing with banks. He said an appeal does not always go through the books and that the office would speak to a bank on a customer’s behalf on the q.t. to get a decision changed.
Does Chambers Ireland see a potential for credit unions to be a source of finance for small businesses? As a credit union and a small business would be an integral part of a community, there would be more knowledge of the business’s prospects.
Mr. Seán Murphy:
As I understand it, it could be but it would want to be a very sophisticated credit union. It could not be a local district credit union. Credit unions were originally about freeing customers from moneylenders. It was about lending money for someone to buy shoes for their children at Christmas, not lending €30,000 in working capital to a business. It would have to be very targeted and there would need to be a high level of professionalism in a credit union to enable it to lend such sums.
Mr. Seán Murphy:
There is and there is a definite mismatch between that money on deposit and getting it into the market. There might be better ways of doing it rather than a credit union doing it directly like through a fund. The BES, business expansion scheme, was successful and Butlers Chocolates, for example, grew on the back of that. That might be a better way of going about releasing this money rather than getting a predominantly volunteer-run and community-driven credit union involved in making credit decisions on businesses.
That is my personal view but Chambers Ireland has not consulted on this as a network. There are chambers and credit unions of scale that may well have the human capital and capacity to get involved in lending. However, it would want to be extremely well-targeted and regulated. The most recent report from the credit union regulator has stated there are challenges for them in professionalising their outputs in that area.
Obviously, there is a cultural move away from the traditional sources of financing with the banks. In our deliberations, we have heard from LinkedFinance, Mr. Peter O'Mahony and Mr. Marc Rafferty. We have heard some good news stories about crowdfunding and the like. Applications for such funding can be filled out in 37 seconds online. These sources seem to be doing something right but it seems to me there is not a significant take-up of them. How well aware are small and medium-sized enterprises, SMEs, of the opportunities of alternative sources of funding? It seems alternative sources of funding have taken off in other countries.
Mr. Seán Murphy:
Crowdfunding and other alternative funding vehicles are all welcome, again no more than the partial loan guarantee scheme. These are all additional helps which will assist in broadening the landscape of funding available. My core point, however, is what do we call success in crowdfunding? What is a number that has a massive reach in how it would affect the market? My sense is that getting to €500 million in crowdfunding would be a massive achievement for crowdfunding but even that is not going make an enormous impact on the credit availability landscape. While welcome, it would not change the feeling on the ground when it comes to availability.
More can be done to increase business awareness. We will be bringing Microfinance Ireland around the chambers network with a series of road shows this year. Microfinance Ireland would have worked with other entities last year but was not getting the same pick-up. It has now come to us and we will profile its service through our chambers boards. That will be a good conduit to local communities. One talks to the board which is often reflected in local media coverage. The board would typically have leading businesses in the area. To be fair, we, along with other organisations, participated in preparing the document Your Business, Your Bank which covered the basics which all of us, banks and businesses, may have forgotten in the noughties such as that character and credit history matters.
There may well be a case for a proper marketing-communications plans to be devised for this. This involves money being spent and many Departments, rightly from their perspective, do not want to spend money on such exercises. If one looks at the roll-out of the single European payments area, SEPA, and the marketing plan funded by banks and overseen by a committee embracing banks, marketers and Central Bank of Ireland staff, it has achieved much and the recognition of SEPA has been significant. Whether it is for Intreo or other work-related schemes, Departments, which spend billions of euro a year, claiming they do not have money for marketing-communications plans means there will be failure in the activation of those schemes.
As we know, many of the businesses in question employ just a few people and might not have the time to follow up looking for such information. Access to information on supports and finance online would make it easier for them.
In my experience with small retailers, I find they have a serious lack of professionalism and need help. Where are they going to get that help? I was delighted to hear about Chamber Ireland’s road show. How is Chambers Ireland financed? Does it have the funding to do this road show?
Mr. Seán Murphy:
We have 46 affiliated chambers across the country, ranging in size from Dublin to Cork to Galway to Limerick and then smaller community-driven chambers in other parts of the country.
We work on a discrete basis with a large number of entities from Eircom to Microsoft. Eircom is rolling out a significant spend on broadband roll-out across the country and we have done approximately 25 events with it throughout the country profiling it to our chamber members, which has gone very well.
Microfinance Ireland will do something similar, targeting a discrete number of a particular type of chamber that might have a higher preponderance of SMEs, addressing their boards, talking about the product and profiling it in local channels thereafter. We can do that with many others. We have offered to do likewise for some of the new schemes emanating from the Department of Social Protection and others. The appetite of the Department of Social Protection and others to spend money on marketing and communications is for them to decide. If they do not spend it, they will not get the return.
The organisation is funded through a number of different sources and is not for profit. We have approximately 12 or 13 lines of revenue including events, publications, commercial partnerships, patronages and, crucially, subscriptions from our members. Given that our members are affiliated chambers, which have memberships, our subscriptions are a relatively small part of our revenue and therefore we have to earn revenue through other sources. While funding is a challenge, Chambers Ireland is a very cost-effective operation and should be a key channel into communities around the country. Organisations such as SEPA have found it worthwhile to work with us in activating that.
Mr. Murphy has covered nearly everything. Aside from the Government schemes, is the cost of credit to business an issue in comparison with our neighbouring countries or are we okay on that? Is the issue raised with Chambers Ireland?
Mr. Seán Murphy:
I sit on the National Competitiveness Council and its most recent report has a specific section on the cost of credit vis-à-vis other European countries, which is a significant challenge. The cost of finance in Ireland is different from that in Germany or Greece. That is a significant challenge.
Mr. Seán Murphy:
It is a good point. Although it has not come up in our consultation around the network, it must be there. It is like gravity; there is a feeling that the cost of credit is the cost of credit in Ireland and much of that relates to funding costs. That is where issues such as fixing the euro once and for all become crucially important.
We will examine them. I appreciate Mr. Murphy's coming here and I thank both witnesses. There are other issues we want to discuss with them and they are due to return here in June. We might try to combine that with the procurement issue. We will adjourn for two minutes as we prepare for the presentation on the Competition and Consumer Protection Bill.