But asking for more significant SME lending volumes is asking lenders to expose themselves to inherently more risk. SMEs experience high rates of failure in their early years and are more likely to have limited financial records to judge affordability securely.
Services that utilise Open Banking can give lenders the up-to-date insights they need to lend to more SMEs with confidence.
Why SME lending is a challenge for lenders
Serving the SME market fairly and affordably carries several challenges:
- Inherently unstable: Historically, small businesses are risky lending prospects. Around one-fifth of small businesses go bust in their first year. That figure rises to 60% over the first three years.
- Tough times: Instability is intensified in a turbulent financial environment. The double-whammy of Brexit and COVID-19 may mean that some SMEs which were financially secure 18 months ago are now in dire straits.
- Already overburdened: SMEs supported by the Bounce Back Loan Scheme (BBLS) in the first lockdown are now making repayments. Now, lenders must get the most up-to-date view of affordability to understand their capacity for further credit.
Why do SME affordability checks need to change?
Lenders must look to new technologies to meet the FCA’s expectations and extend more lending opportunities to SMEs without taking on a greater degree of risk. Traditional models have two distinct shortcomings for serving an SME audience:
- Lacking up-to-date information
In a turbulent economic environment, the winds can change fast for fledgling businesses. The traditional approach, judging affordability from information in company accounts, could mean using data up to 20 months out of date.
Lenders need a comprehensive snapshot of income and expenditure at the time of application to get the most up-to-date information for judging viability.
- No red flags for incoming defaults
Another problem for lenders is not getting a heads-up when things are trending in the wrong direction. Typically, lenders will only learn of defaults after a business has fallen behind, limiting their recovery options and potentially leading to a cascade of non-payments.
Lenders need access to new metrics for judging credit risk and affordability that offer early warning signs for businesses going bad.
Experian’s Commercial Acumen can help
Commercial Acumen is a new Open Banking service from Experian designed to help lenders quickly understand credit risk for SMEs and spot signs of distress early.
- Commercial Acumen delivers a robust income and expenditure using 12 months of transactions, with up to 3 years available to download.
- These transactions are categorised into a rigorously selected set of metrics to deliver new insights. These include wages and profit and early-warning indicators like balance insights, gambling transactions and the number of times an account has become overdrawn.
- Automating the analysis and categorisation of transactional data can slash application processing time by up to 90% while still giving lenders recommendations they can rely on.
- Measuring affordability from transactional data means lenders can support firms with limited credit history or have not yet filed company accounts.
An FCA push for further SME lending doesn’t need to leave lenders feeling cornered. There’s an opportunity to support more small, British businesses in a stable and viable way, with the power of Commercial Acumen.