For me, the best investments are those that are most obvious. If you have to try too hard to explain why a share will rise, it probably won’t. So today, I want to paint a very simple picture for you.
We all know that the banks aren’t lending to small businesses. In a recent presentation Secure Trust Bank (AIM: STB) reminded us of the challenges they face. The banks need to strengthen their balance sheet ratios, and one way of doing this is to cut lending. Under new regulatory requirements they must get a grip on their operations, and that means modernising IT systems.
UK banks have now been told they must ring-fence their high street operations or risk being broken up. Banks are facing a tough time. They are still dealing with bad loans from the boom era. And they are still being hit with fines from past misconduct, such as last week’s £392m penalty for RBS over its involvement in the Libor scandal. The reputation of banks and bankers is at an all-time low.
Where do start-ups turn to?
Bankers think they have more important things to do than lend to pesky small businesses. As I have heard frequently ever since the Lehman crisis, the bank manager’s door is closed to borrowers. This is happening at just the time when the economy needs finance.
The recession has awakened the entrepreneurial spirit. Last year 479,545 new businesses were formed in the United Kingdom, a rise of 9% over 2011. Since some of these brave ventures will flourish and prosper and deliver wealth and jobs in the future this is the best possible news for the UK economy and of far more significance than any government growth-boosting initiatives.
But these new entrepreneurs need a bit of help to get started. Even if it is just a new photocopier, or perhaps a white van, they need some finance. If they cannot get it from the bank, to whom do they turn?
About 30% of total investment in new machinery and equipment is now paid for through leasing contracts by which a broker arranges the purchase of the equipment, which is owned by the leasing company. All the business has to do is keep up the monthly payments.
There are hundreds of leasing brokers across the country, but at the end of last year they had an unwelcome shock. The Dutch bank ING announced that it was to close its Surrey-based ING Lease UK, which had been lending over £1bn a year. Since the total UK leasing market is worth around £12bn per year, that is a large chunk of finance capacity that has suddenly been withdrawn.
A scramble to find new financiers
The ING closure has caused real disruption. Competitors such as Investec Bank, Aldermore and Close Brothers have promised to do what they can to fill the gap, but they may struggle to make up the shortfall. All of those brokers who had been submitting proposals to ING are suddenly scrambling to find new financiers. Secure Trust Bank (STB) is one port of call, while another is Bath-based 1PM (OPM), a company I featured last November.
When I spoke to chief executive Maria Hampton and chief finance officer Helen Walker last month, they said they were “inundated” with new business enquiries. In the last six months, 1PM has added 21 leasing brokers to its panel, bringing it to a total of 65.
The business model is simple. 1PM receives proposals from lease brokers, does the requisite security checks, and if all is well advances the money. It pays 9% for its funds, and via the leasing contracts receives a return over the one to five-year term of the contract of 19%.
Of course, a downturn in the economy could see its bad debt charge rise from 0.8% of its book, and eventually more capacity might come into the market and make it more competitive.
Do you have a spare £50,000?
But for the time being 1PM looks well placed and “is trading significantly ahead of current market expectations.” But it has one problem. It too has to borrow funds to finance its business and would love to have more. If you have £50,000 or more to spare, 1PM offers to pay you 6%-9% – for more details you can check out the website here. Otherwise 1PM relies on wholesale funding.
In order to seize this opportunity, 1PM really needs to boost its own balance sheet by raising new equity. But director Ron Russell (who provided a loan of £500,000 last week) has 29% shareholding and may not want to see that diluted through a share issue. Unless 1PM can resolve this, it may remain a stock market minnow.
• This article is taken from Tom Bulford’s free twice-weekly small-cap investment email The Penny Sleuth. Sign up to The Penny Sleuth here.
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