The Best of Both Worlds?17 June 2019
Since 2008, much has been done to strengthen the UK financial services sector. With the CMA review of the Retail and SME banking market, a series of interventions have also helped to stimulate the supply of credit by making it simpler to switch and by encouraging a technology revolution within the sector through Open Banking. In short, there are now more funders and funding options for SMEs than ever before.
The role of the intermediary has never been so critical – helping business owners to navigate the increasingly complex funding landscape. As brokers and advisers become correspondingly sophisticated, some are also making the leap into direct lending. Today, an increasing number of brokers are offering their clients the best of both worlds – matching their requirements to what’s available in the market and an in-house funding option when appropriate.
So for any broker considering a move into direct lending and building a book of their own, what are the challenges and the potential benefits? Paul Tagg, Head of Block Discounting at Shawbrook Bank, answers some common questions he gets when talking to new clients.
Why should I consider building my own loan book?
It’s certainly a challenge, but for those who can make a success of it (and there are a growing number) building a book is building a legacy. Rather than a one-off commission payment, the book will build over time and the interest it bears will provide an ongoing return. This is important when the owner of a successful brokerage starts to think about exit or retirement: a client book has a value, but a loan book has both an immediate net value to any potential acquirer and will also provide an ongoing annuity.
Having the ability to lend direct is also a differentiator for your business: getting an instant decision and a close relationship-led service is something many business owners still value highly and can struggle to get from larger and more established lenders.
So what are the potential challenges and downsides?
The obvious point to make is that with reward comes risk! So whilst the income is recurring and potentially greater in the long run than taking a commission, there is the constant risk that you won’t be repaid. That’s stressful and can be expensive if you get it wrong. There is also the risk of compromising your objectivity if you don’t think carefully about how you position your direct lending proposition alongside your advisory or introductory services.
So what do I need to start lending and to mitigate those risks?
To provide any sort of funding, there’s a core infrastructure you’ll need – an essential set of enablers. The first is a credit function to be able to evaluate the risk of each potential customer. Then you’ll need the processes, systems and support in place to on-board each client and to manage the relationship for the life of the contract. This will include a Collections & Recoveries capability (even if you don’t intend to lose any money at the outset you will need this capability in place from day one!). Last but not least, you’ll need the right FCA Authorisation.
On that last point, what’s the process?
You need to understand which permissions you need in place and what the FCA is looking for. Expect to provide information on your IT systems and controls, but perhaps the most crucial thing is to have a sound and considered business plan. There are service providers out there who can support you through the process and any external funding partner you choose should also be asking the right questions that’ll ensure your business is ready to lend responsibly and sustainably.
You’ve mentioned funding. What are the options?
First of all you need funds to lend and most new funding businesses will start with their own cash. But continuity is key and once your lending operation is up and running it will need the fuel of a constant flow of new business. So you’ll need to consider a means to leverage that initial capital, whether that comes from private investors, debt funds or from specialist lenders. Block Discounting is an option as it releases capital from existing written agreements by taking security over the contracts - capital that can then be leant to new customers as your book grows.