The financing of new firms: what governments need to know^*

* Julian Frankish writes in a personal capacity and the views expressed do not necessarily reflect the views of Barclays Bank.

ABSTRACT

Governments in all OECD countries either currently have, or have previously had, publicly funded programmes to improve access to finance amongst new and/or small firms. This paper provides insights to governments on the risks associated with funding such businesses. It shines a light into this opaque marketplace by examining the survival and default records of more than 6000 new business clients with Barclays Bank over 10 years. It finds approximately one-in-four start-ups that receive finance will experience a default at some point in their life-cycle and concludes there are significant risks for governments seeking to intervene in this marketplace.

KEYWORDS:

• Finance
• New Firms
• Barclays Bank
• Default rate
• England and Wales

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

* Julian Frankish writes in a personal capacity and the views expressed do not necessarily reflect the views of Barclays Bank.

1 Companies with 1 or less employees have a 2 year death rate of 48%; those with up to 4 employees have a rate of 40%; those with 5–8 employees have a 31% rate; those with 16–32 employees have a 26% rate; those with 64 to 128 have a 15% rates, etc. Only beyond 256 employees is there no consistent relationship between death and size rates. Table 2, p. 13 Hart and Oulton (1998).

2 A recent review found that variants of such Schemes operated in 54 countries (Samujh, Twiname, & Reutemann, 2012).

3 It is important to note that finance use among this start-up sample may not be representative of that for all new firms from 2004. Additional analysis indicates that the usage levels were somewhat higher than for other start-ups from the same three month window. This may be due to a degree of self-selection introduced by only including those who answered the voluntary questions mentioned earlier.

4 This proportion appears almost invariant over time. For example, in a survey of new businesses in North East England found the proportion using banks was 25% in 1979 and 23% in 1990 (Storey & Strange, 1993).

5 Headd (2003) shows that 66% of new employers survive two years or more, 50% survive four years or more, and 40% survive six years or more.

6 It is worth noting that early 2004 was at the end of a two year period when there had been an unintended tax incentive that made incorporation look particularly attractive. This may have skewed the type of business within each legal form, that is, more companies that were ‘effectively’ sole traders.

7 In excess of the minimum required for that legal form, that is, company 2+, partnership 3+.

8 We must be clear that this does not represent the losses to the bank on their lending as this will be related to the interest and capital repayments received prior to default and the proportion of any funds that can be recovered from a defaulting business, so called ‘loss given default’.

9 In 2013 small businesses became able to use a switching mechanism that guaranteed the transfer of a current account, including all direct debits and standing orders, within seven working days, rather than several weeks.

10 Graham (2004), Chart 3.13, page 27.