Why the UK Government’s ‘Coronavirus Business Interruption Loan Scheme’ is in need of urgent changes
Fideres today calls on the UK government to address serious issues with its new Coronavirus Business Interruption Loan Scheme (‘the Loan Scheme’ – the £330 billion in bank loans it has guaranteed to firms to stop them going bankrupt during the COVID-19 outbreak).
Fideres argues that the Government's Coronavirus Business Interruption Loan Scheme is the tip of the spear in the economic fight against Coronavirus. However, its current form is not fit for purpose.
Key issues with the current CBIL scheme
The scheme’s main function should be to give employees the certainty that their jobs are safe for the duration of the crisis. This is the single biggest source of anxiety currently, after fear of the virus.
To reduce anxiety and dampen the economic downturn that is coming, for the scheme to succeed it needs to be simple, fast, and fair. In its current form, it falls short on each of these three criteria.
It is not simple
It lacks transparency as it leaves it to each bank to determine, based on their criteria, which business can obtain a loan on “standard commercial terms”, and which needs to be guaranteed by the government. It requires banks to expand hugely their balance sheets at a time when, based on the lessons of 2008, they will be most reluctant to do so.
It is not fast
The scheme requires a business to shop around for the best commercial terms offered by lenders. This is a time-consuming process at a moment when business owners need to focus all their attention on crisis management.
It also requires businesses to apply for loans through traditional banking channels. Their multi-step decision making process is slow. Their branches are going to be largely closed. Their computer systems are antiquated and will likely not cope with the sheer volume of applications that will flood them. It is a two-step process to access the government guarantees. This adds to the processing time. Any step in the system increases delays and unnecessary risks.
It is not fair
Not fair for the taxpayer – as the scheme does not tie the loans to a promise to keep jobs and does not link the loan guarantees to a commitment to save jobs.
Not fair for business owners – who are subject to each lender’s lengthy and often cumbersome decision process, and to their policies in terms of interest rates. It often exposes them to potential predatory lending practices.
Not fair on employees – they depend on business owners’ decision on how to spend the borrowed money and are left exposed to potential abuses by employers. What prevents business owners from firing their staff and increasing their dividends, for example?
The solution to these issues consists in making the government the effective lenders, directly linking the loans to the payroll costs of the borrowers and introducing measures to keep business accountable, once the crisis is over.
The solution: The Government must reform the proposals in three key aspects
1. The British Business Bank must act as the effective lender, not as guarantor
The banks should only administer the lending scheme, not make lending or commercial decisions. This accelerates the process and eliminates business owners’ need to shop around for best terms. It also eliminates the two-steps application process. It eliminates the banks’ reluctance to inflate their balance sheets. It guarantees that all business owners have a level playing field, avoiding unequal lending practices and terms imposed by different lenders.
2. Loan terms must be directly tied to employment commitments.
The loan amount should be set to a multiple of the SMEs’ quarterly payroll, say 120% of net payroll, paid quarterly in advance. The starting point should be the business payroll as communicated to HMRC in February 2020. The government can verify the payroll numbers, through its PAYE system, before disbursing each loan advance instalment. So, if the SME lays off staff, the amount of funding available decreases. Equally, the system incentivises SMEs in expanding economic sectors to hire. The government could also establish, as it initially announced, a cap on the maximum loan advances available to each business. To keep this maximum aligned to the incentive to maintain pre-crisis staff levels, the government could specify a maximum lending amount per borrower as a multiple of the latest aggregate pre-crisis payroll and draws (for partnerships). So designed, the scheme creates an incentive for businesses to maintain current staffing and rehire employees laid off in the past few weeks.
Also, NI contribution should be delayed so that the businesses have skin in the game. By making advances towards net payrolls, employers are still required to make NI contributions payments to the government.
3. Business owners must be kept accountable
Loan advances must be tied to business owners’ covenants such as: a ban on dividends and a commitment to spend at least 80% of the loans on payroll and draws. Additional simple checks could be implemented but these must be carefully balanced by the risk of delays in the implementation of the scheme. For example, loan advances could be subject to businesses providing proof of profitability, as of the last filed accounts for example. Only companies that are profitable or break even according to such criteria would be able to access the scheme.
Loans should be interest-free for 6 months, extendable if necessary, until the end of the coronavirus crisis. At that point, the interest is set based on a simple formula: lower interest rate for businesses that have preserved the same staff levels as they had at the beginning of the crisis, higher for the others. To encourage repayment, the loans could provide for interest to step-up in line GDP growth.
The loan then runs its term, with provisions allowing for businesses to amortise it or prepay it, with the set level of interest rate.
It is time to act now and fast to halt the wave of layoffs that will leave a lot of people without jobs. Consumers’ spending accounts for almost 70% of UK GDP. By giving employees the security of their jobs, by directly linking the loans to payrolls, the government will signal to individuals that employers will spend the majority of the loans to save their jobs and reduce their anxiety.
Alberto Thomas, founding partner of Fideres, comments on the flawed Loan Scheme, and provides appropriate solutions to these issues:
“This proposal falls short of providing the reassurance that employees and businesses need, at a time of great uncertainty and disruption, to prevent the economy from falling into a great recession or, worse, a depression. It is time to act now and fast to halt the wave of layoffs that will leave a lot of people without jobs. Consumers’ spending accounts for almost 70% of UK GDP. By giving employees the security of their jobs, by directly linking the loans to payrolls, the government will signal to individuals that employers will spend the majority of the loans to save their jobs and reduce their anxiety.”