Challenger and specialist banks’ share of gross lending is the highest on record, outperforming the UK’s big five banks, according to a report from the British Business Bank.
In the Small Business Finance Markets 2024/25 report, the British Business Bank finds that, of the £62.1billion of gross lending to UK SMEs in 2024, £37.3billion was provided by challenger and specialist banks. Their share of gross lending (60 per cent) exceeded that of the big five UK banks for the fourth year in a row, up from 59 per cent in 2023 and the highest on record.
The Bank also finds that business investment by SMEs continued to be low, a key reason for the lag in UK productivity versus other G7 countries.
The proportion of smaller businesses accessing finance fell from 50 per cent in Q3 of 2023 to 43 per cent in Q2 of 2024, most likely due to business confidence remaining low despite some recent economic growth.
The report also finds that smaller businesses generally invest less than larger businesses relative to their turnover. In 2024, smaller businesses invested an estimated £12.3billion, while larger businesses invested 2.25 times as much (£27.7billion), despite larger businesses contributing slightly less turnover to the economy (48 per cent) than smaller businesses (52 per cent).
Reasons for this lower level of investment include a general lack of capital, and investors having less information and certainty about smaller businesses, which leads to higher borrowing costs.
Louis Taylor, CEO of British Business Bank, said: “It is clear that conditions are not easy for smaller businesses, with some domestic uncertainty meaning many were less willing to invest with confidence in 2024.
“If we are to achieve the growth we all want in the UK economy, it is important that we continue to make the case for business investment which can help drive economic growth, lift wages and improve living standards.”
Is a lack of access to finance the key issue?
Investment in the UK has also been low historically, with investment growth slower post-global financial crisis. High cost of credit and risk aversion are key factors behind the lack of investment for smaller businesses
The report finds that smaller businesses who believed they have underinvested most commonly cited ‘credit being too expensive’ (58 per cent) or that they ‘could not borrow at a reasonable rate’ (55 per cent) as key factors for not investing in their business.
Overall, 77 per cent agreed that they would accept a slower growth rate rather than borrowing to grow, with only seven per cent disagreeing, suggesting a strong aversion to taking on debt for investment.
Taylor added: “The diversity of supply of finance, in terms of both product and provider, is an important factor in meeting the diverse needs of the UK’s highly varied smaller business community. The increasing role of challenger banks in 2024 is an encouraging sign, as is the continued rise of asset finance.
“The findings from this report further emphasise the need to ensure smaller businesses across the UK’s nations and regions have better access to the finance they need to invest. We will continue to support UK economic growth by helping them find the capital they need to start up, scale up and stay in the country as they realise their full potential.”
Sustainability climbs the priority list
In 2024, credit card financing continued to be the most popular finance type, although usage did decline slightly from 15 per cent of smaller businesses in Q1 to 13 per cent in Q3.
Bank overdrafts were the second most popular form of finance for much of this period, while also experiencing a larger decline in usage, falling from 14 per cent in Q1 to nine per cent in Q3. These changes indicate a gradual shift away from short-term, higher-interest products.
Meanwhile, 53 per cent of smaller businesses are prioritising environmental sustainability over the next year. This marks an increase from last year’s figure (50 per cent) and is significantly higher than in 2022 (46 per cent).
The report found that 71 per cent of smaller businesses have already undertaken at least one action to become more environmentally sustainable, but that 88 per cent funded these measures using internal sources of funding.
For those planning to undertake energy efficiency and environmentally sustainable measures in the next two years, a greater share of small businesses plan to use external sources of finance, including loans and finance agreements (16 per cent), grants (21 per cent), as well as credit cards and overdrafts (nine per cent).
Less than promising
Equity investment in 2024 was similar to both 2019 and 2020 levels, prior to the significant increase in activity that began during the pandemic. It is now clear that 2021 and 2022 were outlier years for the UK market, during which £20.3billion and £17billion of equity investment was deployed, respectively.
The number of smaller business equity deals in the first three quarters of 2024 fell 24 per cent compared to the first three quarters of 2023. Despite this, the value of deals showed a year-on-year increase of seven per cent for the same period.
Exits from venture capital-backed businesses showed some recovery in 2024, however, with £10.4billion of total value from exits. This represented a 100 per cent increase on 2023 (£5.2billion), driven by a strong second half of the year, and was due to an increase in the valuations of the individual businesses, with the number of exits remaining largely the same (215 in 2024 versus 211 in 2023). This suggests early signs of an upturn in this area of the market.
The report finds that business owners from a Black, Asian or other ethnic minority background are more willing to use external finance (45 per cent) than their White counterparts (31 per cent).
However, 43 per cent of ethnic minority-led businesses cited ‘difficulties getting finance’ to help them grow. Furthermore, the report highlighted that business leaders identifying as Black have found it more difficult to access external finance, with 59 per cent of Black entrepreneurs agreeing it would be difficult for them to get finance.
