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Taxpayers' short-term loans to business

• Robert Peston
• 13 Jan 09, 12:30 PM

The government will tomorrow announce three kinds of financial support for small and medium-sized businesses.

And the first thing to point out is that the potential cost to the government of the measures in respect of public spending is just a few hundred million pounds - even though taxpayer guarantees for loans will be at least 拢10bn. So it would be wrong to get carried away with the significance of all this.

But if the schemes work, they would help small and medium-sized companies to refinance some 拢20bn of debt that falls due for repayment this year.

They are designed to reduce the risk that large numbers of companies will collapse as a result of the reluctance of banks to extend credit.

The government wants to persuade banks, for as little cost as possible to taxpayers, to keep afloat, through the current recession, those businesses that are fundamentally sound.

Help will be targeted at companies of a middling size, with turnover of up to several hundred million pounds a year: not the very smallest businesses and not those big enough to be able to raise funds directly on capital markets.

And it's all quite technical, involving financial engineering that some may see as too complicated.

Probably the most eye-catching of the measures will be the provision of perhaps 拢10bn of taxpayer guarantees for short-term corporate loans provided by banks. These loans would cover medium-size companies' working capital requirements, or their day-to-day financing needs.

These loans aren't particularly risky. And although they have become harder for companies to retain, the withdrawal of working-capital finance by banks isn't the biggest problem faced by most businesses.

So some may see it as odd that the government is providing substantial working-capital finance. But here's where the financial engineering comes in.

Taxpayers would guarantee around 50% of these working-capital facilities, so they would support around 拢20bn of credit to companies.

The tit-for-tat that the Business Department and the Treasury is imposing on banks is that if they take advantage of these taxpayer-backed facilities, they will then be obliged to provide longer-term loans to sound, relevant, needy businesses.

Or, to put it another way: ministers hope that by reducing the requirement of banks to finance companies' working capital, the banks will be prepared to take a few more risks in financing companies' investment and longer-term needs.

We'll see.

Some will argue that the scheme does the opposite of what the public sector should do. They would say that only the public sector and taxpayers have the stomach for taking serious amounts of credit risk right now - so we as taxpayers should do this, rather than providing these relatively risk-free loans.

That said, the Business Department will enlarge a separate scheme, called the Small Firms Enterprise Guarantee, which will involve the public sector taking quite significant risks in financing firms regarded as vital to the long-term needs of the economy.

These would be companies involved in developing products and services with what's known as a high "knowledge" content - or those with the potential to generate significant exports and to underpin the competitiveness of the UK.

Right now, these businesses are having extreme difficulty raising finance. So the government will guarantee up to 80% of loans to them.

These would be riskier loans, which could total several billion pounds in total over time. And therefore the eventual cost to the taxpayers from providing them will run to several hundred million pounds, because some of the loans will go bad.

Finally, the Business Department is making available a few tens of millions of pounds of equity capital to help the survival of strategically important small businesses that foolishly borrowed too much during the years of the debt bubble.

And in the coming few days, there will be an announcement that the government will co-insure trade credit - which is another vital component in companies' financing needs.

Because it's all pretty complicated, there may not be many big headlines out of all this.

It's a lot less easy to understand and possibly less ambitious than the Tory proposal to guarantee up to 拢50bn of loans to companies. (See also Friday's post, Nationalising Tories.)

But ministers would argue that they are targeting help where it's most needed - and that the Tory plan could result in credit being provided either to big businesses that don't really need it or will generate big losses for taxpayers on loans that companies won't be able to afford.

There is a philosophical difference here, between a Tory Party that would trust the banks to use very substantial taxpayer guarantees wisely and a Labour government that would be much more prescriptive in the deployment of much smaller guarantees.

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Vulnerable small firms

• Robert Peston
• 13 Jan 09, 09:55 AM

There are two ways of looking at this morning: as a bit worse than some of its close competitors, particularly those perceived to offer better value for money; and massively better than most retailers.

Tesco is far too big to be dismissed as an interesting exception. Its sales in the UK alone (and it has big overseas operations) are over 拢40bn.

So it matters - and not just to Tesco's shareholders - that in the seven weeks to 10 January Tesco's like-for-like sales (or sales per unit of selling space) were 3.5% higher than in the previous year.

And the resilience of Tesco's sales extended wider than relatively recession-proof food. Tesco says this morning that non-food sales rose a bit - and that it captured market share in electricals, clothing and entertainment.

That said, Tesco's performance appears to have been less robust than its closest competitors, Sainsbury, Asda and Morrison. And smaller retailers that position themselves as offering the cheapest food around, such as Aldi, have enjoyed much stronger sales increments (this morning's ).

But Tesco is incomparably bigger than all of them. Aldi's UK sales are almost the equivalent of a rounding error in Tesco's profit-and-loss account. Tesco is as big as Sainsbury and Asda combined.

So it would be unrealistic to assume that Tesco could escape unscathed from the end of the longest, strongest consumer boom in British history.

But nor are its figures exactly consistent with the screaming headline this morning from the , which says "" when summarising its .

The store groups that belong to the BRC suffered a 1.4% drop in total sales in December and a 3.3% fall in like-for-like sales.

Meanwhile the , representing a much wider range of businesses - some 6,000 of them - says that its survey of economic conditions in the last three months of 2008 discloses "a frightening deterioration" in the health of the British economy.

The BCC says that domestic demand is collapsing, exports are falling and confidence is through the floor.

So who do we believe, Tesco - which talks of a "steady UK performance - or the BCC and the BRC?

To reiterate, it would be wrong to dismiss Tesco as just one firm. In the UK alone it employs more than 280,000 people - compared with 680,000 people for all BCC members.

However, although Tesco, the BCC and the BRC may seem to be saying contradictory things, they are all telling the truth.

Tesco does have the advantage of being in food, which we have to buy even when the economic going gets tough. But it has two other enormous advantages.

It has a massive and fantastically strong balance sheet - so it is not constrained by the shortage of credit that's mullering smaller businesses.

And as a business it's so big that it can cut prices to win customers, and then share the pain of those lower prices with suppliers.

In other words, the most exposed business right now are smaller ones, with limited buying power and a dependence on credit that's harder and more expensive to maintain.

Some of these will fail because they borrowed imprudently during the boom years, or because they are badly managed or because they are in industries or markets in terminal decline.

Although there is a human cost to such failures, we shouldn't weep too much or try to prop them up. The fastest route to long-term economic decline is to put lame ducks on life support.

What should worry us however is that many fundamentally sound companies may fail, simply because some international banks have massively reduced their presence in the UK corporate-lending market and British banks have perhaps become excessively averse to taking risks.

These vicious trends have been conspicuous for months. And, after months of evaluating how to maximise the therapeutic bang for the taxpayers' buck, the government will tomorrow unveil measures that it hopes will correct some of those market failures.

To state the bloomin' obvious, even Tesco couldn't thrive if the productive capacity of Britain's small and medium sized firms were wiped out in the coming months.

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