Small and medium mercies

With 12.5 million jobs and 51% of private business turnover, the SME sector is the core of Britain’s economy. All but 6,800 of the nation’s 3.7 million private businesses are SMEs – firms with fewer than 250 employees, the vast majority having less than 50. Factors other than sheer size make the sector crucial to economic growth as SMEs are disproportionately entrepreneurial, innovative and job creating.

More needs to be done to develop the UK’s enterprise culture. Though the UK’s business start-up rates are around the EU average, they are unremarkable by international standards.

At home, start-ups in the best economically performing areas are ten times those of the worst, some ethnic groups are markedly less likely to set up businesses than others and the UK has a worse record than many western countries for women’s entrepreneurship. Moreover, the potential of existing SMEs is often frustrated. Too few start-ups become high growth businesses and 40% cease trading within three years.

In line with other developed economies, the government’s policies for improving productivity emphasise the need to encourage enterprise and innovation among smaller businesses. A core element of government policy is to increase the number of business start-ups, particularly for minorities, women entrepreneurs and potential high-growth companies.

Seeds of entrepreneurship are to be sown in schools and the further education sphere. From 2004 ‘work related learning’ will become part of the curriculum at key stage 4. The Department for Education and Skills is proceeding with a phased implementation of the recommendations of the Davies Review of Enterprise and the Economy in Education, which proposed a step change in the quality and availability of enterprise education, economic understanding and financial literacy in schools.

Stimulating enterprise

The ICAEW welcomes the new emphasis, but notes that several years will elapse before the Davies recommendations are fully implemented. In the meantime, we recommend that the DfES and the Learning & Skills Council focus on making a success of both the current curriculum and those changes due in 2004.

Attention should be paid to the indirect development of an entrepreneurial mindset via emphasis on basic values of independence and creativity, together with core skills such as analysis and communication. We shall encourage our members to get involved in the Education Business Link Consortia’ as well as Enterprise Insight and schemes such as Young Enterprise.

While a regular inflow of new businesses is vital to enhance the vitality and drive of the SME sector, it is too easy to place an excessive emphasis on start-ups. Research has shown that inadequate preparation – lack of financial and management skills, weak sectoral experience and inadequate finance – drags many new firms down.

The Small Business Service (SBS) should place a greater emphasis on improving the quality of potential start-ups. Many chartered accountants offer free initial guidance for would-be entrepreneurs and the ICAEW would welcome a closer relationship with the SBS in order to increase its members’ awareness of the range of available services.

Evidence suggests that small business survival rates are increased by taking good quality external advice. Yet there is a bewildering array of private and public providers. The SBS should work with private sector providers, SME organisations and agencies to list sources of external advice and assess their value to young businesses.

Access to finance

The government has sought to stimulate equity investment in start-up and small businesses via tax-based incentives. It is now considering a new vehicle, small business investment companies (SBICs) which will provide investors with tax benefits in return for higher investment risks and the proportionally increased costs of due diligence.

Unfortunately many existing schemes have been beset by serious problems:

• Poor take-up by some bank branches has restricted the success of the small firms loan guarantee scheme (SFLG);

• Potential investors have been deterred by the complex conditions of the enterprise investment scheme (EIS) and venture capital trusts (VCT);

• Regional venture capital funds (RVCFs) have only raised £230m, compared with £3.5bn invested in EIS and VCT during the eight years since their inception; and

• Ignorance of financing issues leads many SMEs to submit proposals, which potential providers find hard to analyse and are likely to decline.

ICAEW PROPOSALS

When considering the introduction of SBICs, the government should conduct an urgent review of existing schemes promoting equity finance. Individual measures should be subject to cost-benefit assessments; evaluations of their compatibility with public policy objectives; and a comparison with publicly-supported equity finance initiatives overseas.

The SFLG scheme has made real progress in filling the ‘quasi-equity gap’ for early stage companies with funding up to £250,000. But problems still exist for those seeking between £250,000-£500,000, due to the relatively high initial cost of due diligence and legal fees for equity investment.

The ICAEW recommends two amendments to the SFLG scheme:

• raising the upper limit to £500,000 specifically for the benefit of firms with high-growth potential (usually in hi-tech); and

• improving access by spotlighting those banks making most use of SFLGs.

The SBS should publish a regular ‘league table’ of which branches grant most advances under the scheme.

• This is an edited extract from the ICAEW report Entrepreneurship: the key to growing the SME sector.