The drop in residential property prices means SMEs whose business lending is tied to the value of their property are hurting.
The Australian Bureau of Statistics has just released its latest figures on Australian SMEs. It shows the most common employing size for business in Australia is between one and four employees (71.5 per cent; or 627,932 businesses)1, demonstrating the enormous importance of SMEs to the Australian economy.
The data also shows that in 2017–18, sole proprietor businesses had the highest entry rate (23.8 per cent) but sadly also the highest exit rate (16.5 per cent)2. No doubt this latter statistic was not helped by recent developments in the Australian credit market, with SMEs finding it particularly difficult to secure funding for growth.
Although the final report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, released in February, did not recommend major changes to the lending framework which applies to SMEs, the topic of lending to small business is likely to continue to be debated.
About 80 per cent of SME lending is secured by some form of real estate, and this is often personal property3 such as the family home. Lenders assess business loans secured by residential property as though they are mortgages and with the recent tightening of mortgage assessments, this has severely impacted lines of credit for SMEs.
The significant drop in residential property prices in many parts of Australia has exacerbated the issue, according to Kate Carnell, the Australian Small Business and Family Enterprise Ombudsman4.
Because SMEs often amalgamate business and personal income and do not distinguish between their personal and business borrowings, their financial waters can become very muddied. This can make it incredibly hard for SMEs to be clear on their true financial position.
“SME owners have always faced enormous pressure as they seek to build and maintain sustainable businesses.”
This mixing of business and personal finance is often necessitated by cashflow issues. However, it also reflects that, for many SME owners, their sense of identity is very much tied to their business. They feel an immense responsibility not just to their families and themselves but also to the people they employ, as well as to their suppliers, who are often other small businesses.
Yet this very strong sense of pride and responsibility that many SMEs have doesn’t always translate into adequate planning. MetLife conducted a survey last year of SMEs with up to 20 employees who had purchased life insurance or were intending to do so within two years. Our survey found that almost half say their business would only be able to operate for up to a year if they were unable to work.
During the Royal Commission hearings, one of the SME business loan-related issues that emerged was the requirement that a lender assess whether a small-business customer can repay a loan based on their financial position and account conduct. Submissions to the Royal Commission demonstrated disagreement about the bounds and content of these obligations.
At present, risks that may significantly impact a business’s viability – such as the owner or a key employee being unable to work due to critical illness – are not factored into many lending decisions, either by the lender or the borrower. Current processes do not formally necessitate that the borrower has significant protection in place for such risks. Therefore, too often these risks are not taken into consideration.
This is where the role of accountants and advisers is incredibly important to engage with business owners to help them understand the potential impact of unforeseen risks. Professionals are best placed to identify their clients’ circumstances and select from the range of solutions that may apply. Also, because clients’ needs change over time, particularly in regard to insurance, SMEs have a need for long-term quality advice.
This has been reinforced by the Ombudsman, who wants to see “finance-ready SMEs”5. Following the inquiry, Affordable Capital for SME Growth, the Ombudsman issued a report in June last year which recommended that SMEs work with their financial advisers, including bookkeepers, accountants and others, to ensure their business is properly prepared to apply for finance.
SME owners care as much about their employees and businesses and as they do their families and homes, and for many these different facets of their lives are inextricably financially linked, with many businesses secured against personal assets. Yet a lot of SMEs don’t think about the flip side of this and what this may mean for protecting their families, employees and personal assets. Only 55 per cent of SMEs surveyed by MetLife had Total and Permanent Disability insurance, and only 35 per cent had Key Person insurance. Many also don’t realise that insurance products can be specifically tailored to an SME’s specific needs, for example having insurance to cover loans and debt, if appropriate. This strategy can protect and reduce the financial burden on the business owner (or remaining family) if the business owner gets sick or dies. Equally, SMEs don’t want to pay for things if they don’t apply, so being able to pick what they’re covered for is really important.
SME owners have always faced enormous pressure as they seek to build and maintain sustainable businesses. Recent difficulties in accessing credit have only increased this pressure for many. A way SME owners can alleviate some of this pressure is to ensure they are getting professional advice and have tailored insurance strategies in place to mitigate the risks that are specific to their business and circumstances, whether that be protecting themselves, key employees or key assets. Our research confirmed that people who are professionally advised on matters such as life insurance experience greater financial certainty and peace of mind that their lifestyle is protected.
SMEs are a vital part of both the social and economic fabric of Australia and for many, owning an SME is the realisation of a great dream. For these and many other reasons, we need to work harder to ensure none are under any financial illusion.
Gary Bailison, head of individual insurance, MetLife
1 The Australian Bureau of Statistics 2019
2 The Australian Bureau of Statistics 2019
3 Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry Background Paper 12 Financial Services and Small and Medium Sized Enterprises. 2018 page 12
4 AFR January 7 2018
5 Australian Small Business and Family Enterprise Affordable capital for SME growth
This story first appeared in issue 25 of the Inside Small Business quarterly magazine.