Speaking at the UNSW Australasian Finance and Banking Conference in Sydney yesterday, Reserve Bank of Australia assistant governor Christopher Kent said small businesses, entrepreneurs and start-ups face a number of challenges in accessing finance.
“Compared with larger, more established firms, smaller, newer businesses find it difficult to obtain external finance since they are riskier on average and there is less information available to lenders and investors about their prospects,” Mr Kent said.
“Lenders typically manage these risks by charging higher interest rates than for large business loans, by rejecting a greater proportion of small business credit applications or by providing credit on a relatively restricted basis.”
Indeed, interest rates on small business loans have “remained relatively high” due to a lack of competition – leaving banks as the major provider of lending to small businesses (80 per cent).
“Small businesses continue to use loans from banks for most of their debt funding because it is often difficult and costly for them to raise funds directly from capital markets,” Mr Kent said.
Other means of access to finance such as equity markets or providing alternative collateral were not ideal choices for small businesses either, he continued.
But a CCR regime would offer lenders more information about potential borrowers’ credit history than just negative credit information, as per the current standard.
“When information about credit that has been repaid without problems also becomes available publicly, the cost of assessing credit risks will be reduced and lenders will be able to price risk more accurately,” Mr Kent said.
“This may enhance competition as the current lender to any particular business will no longer have an informational advantage over other lenders.
“It may also reduce the need for lenders to seek additional collateral and personal guarantees for small business lending, particularly for established businesses.”
The Australian government has determined a mandatory credit reporting regime to come into effect in July 2018, but a number of financial institutions such as NAB have already announced it will roll out such a regime.
Open banking, too, would also allow for entrepreneurs to share data with potential lenders, Mr Kent said.
“When assessing credit risks, lenders place considerable weight on evidence of the capacity of small business borrowers to service their debts based on their cash flows,” he said.
“For this reason, making this data available via open banking would reduce the cost of assessing credit risk.”
Other forms of accessing finance for smaller firms or entrepreneur were large technology firms and alternative financing platforms, such as marketplace lending and crowdfunding, he added.
But these platforms, while they had potential, had limitations and were thus not yet a mainstream option.
“There are several innovations that have the potential to improve access to finance, although their use has been limited to date,” Mr Kent said.
“The most promising development in the near term is mandatory comprehensive credit reporting, which has the potential to lower the cost of credit risk assessment for all lenders and reduce the need for entrepreneurs to provide personal guarantees and collateral.”
