Mutual Guarantee Socieities – Lending support

The concept has come from Europe and it could be just what UK businesses have been waiting for. UK Mutual Guarantee Societies (MGSs) promise to provide financial support for small businesses and to help start-ups get off the ground.

Small businesses can join a MGS by buying a share for a nominal amount.

That gives them easy access to finance from participating banks. Banks currently in the scheme are the Co-Operative Bank and Unity Trust Bank.

Since it was established in the UK in 1994, the National Association of MGSs (NAMGSs) has run eight pilot schemes across the UK to test out the idea. Judging from the amount of cash these schemes have received from eager members they have been a great success, and by summer will be in a position to start providing guaranteed loans. MGSs will be able to guarantee the unsecured part of loans when their members who need cash do not have the security needed to receive a bank loan.

‘At this stage, no direct loans have been made because the saving structure has only been developing for six months,’ says David Bennett, chairman of the NAMGSs.

‘Members have started saving regularly in societies. They are electing their committees and each is looking into marketing its scheme to gain extra members.’ MGSs are run by a management team that liaises with the banks on its members’ behalf, prepares the loan applications and monitors its progress.

Each society was set up with the help of Business Links, the small business support service, Training and Enterprise Councils (TECs) and, in some cases, local government. They may also qualify for matching financial assistance from the European Union, which doubles the size of their fund.

Barbara Roche, small firms minister, is confident about the future role of the MGS. ‘This is an important step in helping firms overcome the disadvantages they have in sourcing finance compared with larger companies. I will be watching their development closely,’ she says. So far, a total of 350 businesses in the eight pilot societies will benefit from this new self-help scheme.

The idea of mutual guarantees came from Europe, where MGSs have advanced more than #50bn in loans to small firms. These, in turn, have helped small businesses achieve a much lower failure rate than in the UK. In Europe, each scheme has up to 500 members, while the newer UK societies have only 30 to 40 members.

Businesses joining a scheme pay an initial fee of #25, which covers the cost of one share in the MGS. They can then deposit savings with the MGS from #1,000 to #10,000 in the coming year. These funds join a pool of other members’ cash, which will eventually grow until the society is in a sound financial position. Ultimately, this allows the society to act as guarantor to any of its members when they need a loan from their bank but do not have the collateral.

Martin Moylan, vice chairman of the Tameside MGS in Lancashire, describes the main advantages of using an MGS. He says: ‘We offer a 6.75% rate on business savings. We can increase the level of interest we pay and minimise the level of interest we charge because we don’t have to make a big margin. We can lend a multiple of what a member has saved in the society and they can repay the sum over a longer period of time.’

Membership of an MGS brings other advantages too, according to Bennett.

‘Members are in a network of companies where there may be someone who can help them look for solutions to business problems. A group of businesses looking for a common solution creates a tighter bond, which is something the Chambers of Commerce can’t always provide.’

Most societies have already begun liaising with banks on behalf of their members. George Hebden, chairman of the Lancashire MGS, described its progress to date: ‘Our society looks like it will have about #30,000 in funds by the end of April. We are hoping that by the end of September it will have about #50,000.

‘We will probably start guaranteeing by the end of next year.

Until we are sure the pot is big enough and the amount that is being lent is guaranteed, we’re being very cautious,’ Hebden says.

A little here, a little there, spreads the risk

The Lancashire MGS has been the first one to use its expertise to help a member gain a bank loan, although it did not stand as a guarantor for the loan. A married couple in the MGS who owned two businesses and four properties applied to their bank for a loan. They were struggling financially and knew they needed money to get back on their feet.

‘The bank punched in the details of their claim and looked at the figures and said it would be disastrous to give them a loan. So we put together a five-year plan, knowing they would have a poor income for the next year, and through our support they were given the loan,’ says Hebden. This resulted in the Co-Operative Bank agreeing to the loan.

Paula Brown, a business development manager at the Co-Operative Bank, explains the bank’s motives: ‘It was not a standard proposition. The couple would have had difficulty getting the funds elsewhere, but the MGS gave them the backing they needed to help them get the loan.’

The Co-Operative Bank offers preferential savings rates and has reduced the charges for MGS members by around 70%. This will be invaluable for small businesses that are struggling to make ends meet.

The more members who save in a MGS, the more the risk is spread. ‘When you’ve got a large amount of money, you can guarantee ten loans of #1,000.

This means you are only putting #1,000 at risk in a small business so the #10,000 isn’t all at risk at the same time,’ says Hebden.

Members in societies have started saving regularly to increase the pool of money that will be used as a guarantee. When they need a loan, they will be able to ask their MGS for any additional backing or guarantees that the bank needs, or they may be able to gain a direct loan from the MGS.

An MGS can offer interest rates on loans that are up to 2% lower than borrowing from outside the societies. Other benefits available include a more flexible approach to new businesses that need money than normally proffered by banks. If seven new societies a year are formed, as the government expects, the MGSs will be lending #240m to small firms in five years’ time.

Moylan thinks MGSs will provide vital support for businesses in their early days. He thinks the wealth of experience that executives bring to a MGS will also be invaluable. ‘We will sit down and consider them and their ideas, then, using our experience we will look at the deeper motivating factors before lending them money – things such as their commitment, vision and enthusiasm,’ he says.

‘A business plan is important of course, but that does not give us an idea of what’s going to happen when things get tough. You can only tell that if you have experience in business,’ Moylan says. ‘We have a different approach to banks. If someone is struggling with the repayment of a loan, we will ask them, “Would it help if you didn’t pay for a few months?” or “Do you want us to have a look at the problem?” so we effectively mentor small businesses,’ he adds.

The key function of an MGS is to spread business risk. But they can also provide advice while some in addition negotiate add-on services that include insurance and training within the network of members in the society.

But most people in the field believe it is early days to judge whether the societies will be successful. Clive Parritt, chairman of Group A accountant Baker Tilly, says: ‘It’s too early to say if it’s going to be a useful society, but it is worth a try if it will help small businesses to get off the ground.’ He is a little concerned, though, that only two banks have supported the venture.

‘The bigger banks have not supported the MGS and, unless they do, it might be difficult to make it work, but I hope this is not the case,’ he says.

MGSs have been a great success in Europe and there is certainly plenty of evidence to suggest that fewer small businesses in such schemes fail.

But, like all things European, it may be that UK banks have an inherent mistrust of them. And until they get over this, it may be difficult for MGSs to take off nationwide.

Theresa Sweeney is a freelance journalist.

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