Taking the credit

Credit is the financial engine that powers progressive manufacturers because it pays for the investment in new plant and equipment that drives them forward. Businesses that invest in more efficient or productive kit find themselves at a significant competitive advantage over those that are conserving cash, or put off making investments due to lack of finance. Sadly, there are far too many of the latter. A third of UK companies are turning down orders worth more than £5.4 billion rather than investing in new equipment, according to a recent survey by asset finance provider Lombard. Around a quarter of those surveyed said they were using equipment that needed to be replaced and, of these, nearly three-quarters said this was resulting in higher maintenance bills. A staggering two thirds said old plant and equipment had cost them orders. So there are pressing business reasons to invest in new plant and equipment. But assets – ranging from CNC machines to air conditioning units, fork lift trucks to IT equipment – need to be financed. Assuming you don't have pockets stuffed full of cash, you will need access to some form of credit. But traditional finance like overdraft facilities and bank loans are becoming harder to come by. So where do you turn? The SME Finance Monitor written and published by BDRC Continental surveys 5,000 businesses every quarter about past borrowing and future borrowing intentions. In the latest report – covering quarter 2 of 2013 – 44% of SMEs reported using external finance, up from 39% in Q1. Use of the core products – loans, overdrafts and credit cards, often delivered by a bank – remained flat at 33% (with overdrafts now used by just 18% of all SMEs, the lowest level seen to date). External finance boost However, other forms of external finance – such as leasing, invoice discounting, grants and loans from directors – increased to boost the overall use of external finance. Use of such products is now 21%, up from 15% in recent quarters. Around a third (36%) of SMEs are 'permanent non-borrowers', those that do not use external finance and show little inclination to do so. One example of this group is Dave Shepherd, operations director at Building Adhesives. He says: "We are in the fortunate position compared to many in that we are wholly owned by a German parent and we are cash positive. We have no borrowings ourselves; the parent has borrowings and we pay them a dividend periodically to ensure that we always have cash in the bank... It is effectively in-house borrowing. We do not rely on banks or finance houses." But would he be averse to borrowing money? "Having done an MBA, I can tell you that the business school response is that companies often perform more diligently when they have borrowings against the bank because the need to finance that poses a greater challenge to their cash management. "I suspect there is something in that. On the other hand, if you have the right level of reporting and commitment, you should be just as aggressively managing your cash whether you are cash positive or cash negative." For David O'Neil of HK Timber, there are two views: "If you purchase something outright it's an asset and it sits on the balance sheet and it makes the company look strong. The other view is that leasing the equipment means its maintenance can be somebody else's responsibility and we can concentrate on what we are good at – making our products. "It is a fine line, but if you are in a business where cash is less readily available then leasing spreads the risk and negates the instant demand for money that might starve investment." Assuming you don't have (or don't want to use) an overdraft facility or loan, and your business wants to retain its cash, or simply doesn't have any to spare, then asset finance – in the form of leasing or hire purchase – is worth considering. Asset finance is the third most common source of finance for businesses after bank overdrafts and loans. It is a flexible form of funding that uses the asset itself as security and helps businesses to release working capital without taking money from their reserves (assuming they have any!) It's horses for courses The choice between short-term rental, leasing and hire purchase will need to be made on the basis of your own specific requirements. So, for example, look at whether the asset is going to resolve an immediate utilisation problem (in which case, consider short-term rental) or will be needed for an extended period, say five years (in which case leasing or hire purchase could make sense). Neil Lloyd, head of sales development at Lombard, explains the difference between leasing and hire purchase: "With leasing, you find the asset that you want for the factory. Then, we [the finance house] essentially buy it and you lease it off us, say, for five years. At the end of the 60th payment we take the asset back. "With hire purchase, you buy the asset. We then finance that for you over, say, five years. So you get the asset on day one and you pay for it over five years. On the 60th payment, the asset is yours." One of the biggest benefits of asset finance is that the asset is yours for the duration of the contract and can't be removed unless you breach the contract. Payments can also be fixed, giving you budgeting certainty which helps with cost management. And, you get access to the latest technology. Asset finance is a popolar option – Lombard has seen a 66% increase in its lending to the manufacturing sector in the past year. However, if you remain unsure about which financing route to take, talk to your bank, financial adviser and/or asset finance company about the options. They will be able to clearly lay out all the options and recommend the best for your circumstances. Hire education On the basis that there is nothing you can't hire, lease or borrow, the rental business has the distinction of being the biggest industry in the world. Of course, biggest is not always best – cash buyers own everything and owe nothing which offers considerable peace of mind. And, owning the equipment means there are no restrictions on its use. Buying outright may be the best option if you plan to keep the asset for an extended period, but it does tie up your cash in an asset. Besides, if your business is not cash-rich or if plant and equipment availability is an issue for you, say you have a sudden needfor equipment , leasing or hiring is a good option. It offers a range of advantages. For example, you: - Incur no capital outlay or upfront fees, freeing up capital for your core business activities - Benefit from a variety of hiring options from short-term rental to long-term leasing to hire purchase - Can replace equipment quickly and efficiently, minimising downtime - Obtain the latest, most efficient technology with the lowest running costs - Can be assured that the asset will be fully tested, well-maintained and serviced, and compliant with relevant health and safety legislation - Eliminate equipment obsolescence and depreciation - Don't have to hold spares or employ somebody to look after the asset, saving storage space and labour costs - Are able to reduce liabilities on your balance sheet - Smooth out the peaks and troughs in your business without carrying large fixed overheads - Can use short-term hiring as an opportunity to try before you buy