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Sources of finance

for themselves so there may be some point in the business doing it for them, with the

objective of reducing specific risk. Of course, because the business is small, the practic-

ality of internal diversification may be much less than would be the case with a larger

business. There is also the problem that diversification may take the business into

areas of activity that it is not competent to manage.

16.7 Sources of finance

Over the years, there have been several UK government-sponsored enquiries that have

dealt at least partly with the financing of small businesses (for example, the Wilson

Committee (1980) to review the functioning of financial institutions). Each of these dis-

covered, to a greater or lesser extent, that small businesses find it more difficult and

more expensive to raise external finance than do larger ones. For this reason they are

forced to rely on internally generated funds (retained profits) to a great extent.

It seems that large businesses also rely heavily on retained profits as a major source

of finance, with capital issues perhaps averaging about 25 per cent of total new finance

over recent years.

No doubt small businesses do experience some problems in raising external finance

and, triggered by the publication of the reports of the various enquiries into small

business financing, numerous schemes and agencies were established to make it eas-

ier for them. The more recent enquiries found not so much an absence of sources avail-

able to small businesses, as ignorance on the part of their management of the existence

of those sources. Efforts to plug the ‘information gap’ are manifest in the UK.

According to the Department for Business Enterprise and Regulatory Reform

(2008), obtaining finance is not seen by small businesses themselves as a major prob-

lem: only 3 per cent of respondents to a survey of small businesses regarded it as the

‘biggest obstacle to business success’. This put access to finance as only the ninth most

important problem, well behind the problem of ‘competition in the market’ (15 per

cent), ‘regulations’ (14 per cent) and ‘taxation’ etc. (12 per cent), which respondents

indicated as their most important problems. This low rating of finance as a problem is

typical of other survey evidence from small business managers.

No doubt it remains difficult and expensive for small businesses to raise external

finance, but at least their managers and shareholders may take comfort from the fact

that just about everyone with any influence in the matter, most particularly the UK

government, seems eager to improve the situation.

Exit routes

A particular problem faced by small businesses in their quest for equity capital is the

lack of an ‘exit route’. Generally, investors require that there be some way of liquidat-

ing their investment before they are prepared to commit funds to it. With businesses

listed on the Stock Exchange or a similar market, this normally poses no great prob-

lem. However, small businesses find this a significant issue.

Three possibilities facing the potential equity investors are:

l The business will be able to buy back the shares from the shareholder. However,

this requires that it has generated sufficient cash, and that it does not need that cash

for further investment. This is not a very attractive option for the business. One of

equity’s key advantages to the business is the absence of the need to liquidate it.